A Lost Opportunity

Maybe President Obama never would, or could, have delivered enough congressional Democrats to pass a “grand bargain” to tame the long-term deficit. But as the prospects for a big deal dwindle, a combination of ideological rigidity and political hubris is preventing Republicans from putting him to that test.

The ideological excess concerns taxes. House Speaker John Boehner this week insisted, “The American people understand that tax hikes destroy jobs.” In fact, there is simply no evidence that every tax cut creates jobs or that every tax increase destroys them.

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That’s a big lesson of the past three decades. In 1981, President Reagan massively cut taxes with his supply-side reductions in income-tax rates. Still sluggish at first, the economy eventually soared for the remainder of his presidency. By the fourth year after Reagan signed the tax cut, the economy had created 6.3 million new jobs (an increase of 6.8 percent); eight years on, the economy had created 16.5 million new jobs, up 18 percent.

Sounds like a pretty good case for tax cuts. But the economy produced even more jobs after President Clinton raised taxes on the wealthy in 1993. Four years after Clinton’s tax increase—which Republican opponents at the time denounced as a certain job-killer—the economy had produced 11.8 million new jobs, an increase of nearly 11 percent. Eight years after the tax increase, the economy had added 20.6 million jobs, up 18.6 percent. Measured in both absolute and percentage terms, the economy produced more jobs after Clinton raised taxes than after Reagan cut them.

Then, after President George W. Bush’s massive 2001 tax cut, the economy recorded its most dismal decade for job creation since the Great Depression. Eight years after Bush signed his cut (and added another round of reductions in 2003), nearly 1.6 million fewer Americans were at work. And although the median income for average families rose by about 12 percent in the eight years after both the Reagan tax cuts and the Clinton tax increase, income for average families declined almost $1,400 (or 2.7 percent) in the equivalent period after Bush signed his reductions.

If that experience doesn’t demolish the idea that tax cuts always produce prosperity, consider more recent history. The big deal that Obama and congressional Republicans reached in late 2010 was to extend the Bush tax cuts through 2012—and to turbocharge them with a new payroll-tax reduction. Despite those incentives, job growth has collapsed this year.

Many other factors (led by rising gas prices) contributed to this slowdown. But other factors always affect the economy. The message is that all of those other factors usually matter more than tax policy does. In the past three decades, job growth has thrived after tax cuts and after tax increases, and it has stagnated after tax cuts. If there’s a pattern, it’s that tax policy typically isn’t the decisive factor in driving a machine as complex as the U.S. economy.

Given those precedents, tax policy ought to be seen not as the secret to growth but, more modestly, as one part of the fiscal policy toolbox. And on that front, the case against including some revenue in a comprehensive deficit-reduction package is even weaker. Federal revenue, as a share of the overall economy, is at its lowest level since 1950. That was not only before Medicare and Medicaid, but also before the interstate highway system. Especially as our society ages, Washington will need significantly more revenue than that to support even the minimal level of government that most Americans will accept.

Here’s where the hubris comes in. Republicans are right that our graying society won’t stabilize its finances without controlling entitlement spending, particularly for Medicare. But they are vastly overestimating their ability to impose such changes without bipartisan cover.

In these negotiations, Obama has belatedly but beneficially acknowledged that Democrats cannot preserve funding for public investments such as education and research if entitlements swallow the budget. Republicans want deeper cuts than he has offered and are betting that the 2012 results will allow them to impose edgier ideas such as converting Medicare into a premium-support, or voucher, program. But even if Republicans do win control of Congress and the White House next year, they would likely find it impossible to persuade their majorities to approve big entitlement reform on a party-line basis—as Bush discovered when his Social Security restructuring plan failed to reach a floor vote in either chamber despite unified GOP control in 2005.

“If we win the next election … Democrats will have no incentive to compromise on entitlement reform whatsoever, and we’ll pay the full price,” veteran GOP lobbyist Vin Weber warns.

Obama’s willingness to provide a heat shield (and corral some Democratic votes) offers the GOP a historic opportunity to lock in necessary changes to the social-safety net that would be more sustainable precisely because they are bipartisan. But the Republicans will deny themselves—and the country—that chance if they maintain an ossified opposition to taxes that prizes ideology over experience. 

This article appears in the July 16, 2011, edition of National Journal.

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