It was one of the earliest defining moments of this presidential campaign. It left the White House accusing the early field of Republicans of being out of touch and, typical of Democrats' now-tired rhetoric, beholden to "millionaires and billionaires" and the Tea Party. And it left the New York Times Editorial Board apoplectic -- the first clue that the GOP candidates were on to something good.
The event was the Republican debate in Ames, Iowa, on August 11, 2011, when Fox News anchor Bret Baier asked the eight candidates which of them would "walk away from a ten-to-one (ratio of spending cuts to tax increases) deal." All eight hands went up.
It was the fiscal policy equivalent of Nancy Reagan's "Just Say No!" campaign against drug use, except that it is arguably an even more important goal, particularly for politicians.
As Democrats play Thelma and Louise politics with the coming "fiscal cliff," hoping that Republicans will be so afraid of being blamed for not agreeing to a "balanced" solution, the GOP should call their bluff.
A congressman, whom I will not identify by name or party, e-mailed me the other day suggesting tax reform that closes loopholes, ends some subsidies and "tax expenditures," and then "uses three quarters of the revenue to bring down tax rates and one quarter for deficit reduction."
This siren song of "balance" is a seductive proposition for "conservative" legislators looking for a compromise or, more cynically, for liberal politicians looking to further increase the size and cost of government.
But if Mitt Romney was willing to walk away from a 10-to-1 deal -- and I hope he remains true to his word -- he and other GOP leaders should offer some steel for the spines of wobbly Republicans who are afraid of being accused of being "extreme," of causing gridlock, of preventing "progress" and bipartisanship.
Republicans must remain mindful that bipartisanship always means conservatives moving toward a more liberal position, getting nothing in return other than avoiding the sometimes difficult but always beneficial task of explaining a principled vote to constituents. (Republicans could take a lesson from freshman Congressman Justin Amash, the second-youngest member of the House, who posts on his Facebook page an explanation for every vote he casts in the House. It is not just for this reason that I contributed to Amash's campaign earlier this year.)
Several basic facts and principles are in order to give wavering Republicans the intellectual ammunition needed to hold their ground, and the confidence and ability to explain it well:
(1) As Milton Friedman explained (in a video that should be required viewing for every member of Congress), "In the long run government will spend whatever the tax system will raise, plus as much more as it can get away with." In other words, claims that any part of a tax increase will be used for "deficit reduction" are a deception.
(2) Democrats argue that federal income tax collections are too low as a share of GDP, and therefore tax rates should be raised on the "rich." Indeed, 2010's tax receipts, at about 15 percent of GDP, were the lowest since 1950. This is not, however, due to President Bush's tax cuts, at least not in the way the left believes. In particular, it is not that the "rich" are not paying enough tax but rather than the Bush tax cuts added to the trend during the last several presidential administrations (along with their collaborators in Congress) of making the tax code ever more "progressive" and removing ever more citizens from any federal income tax liability at all.
When the recent recession hit, the income of top earners was -- as it always is -- hit very hard, with their share of national income dropping substantially. When the top one percent of earners pay roughly 40 percent, and the top ten percent of earners paying over 70 percent, of all income taxes, a drop in their income turns into a drop in tax receipts which is not buffered by the nearly half of the country which pays zero (or are net recipients of) federal income tax.
This explains the move away from the historical average of income tax collections of about 19 percent of GDP, as economist Kurt Hauser describes in what has become known as Hauser's Law: no matter what income tax rates have been, government has rarely been able to extract more than about 19.5 percent of GDP from the citizenry.
Thus, as Hauser explained 18 months ago -- in response to the same Democrat tax-hike proposal they are pushing today -- "Even amoebas learn by trial and error, but some economists and politicians do not. The Obama administration's budget projections claim that raising taxes on the top 2% of taxpayers, those individuals earning more than $200,000 and couples earning $250,000 or more, will increase revenues to the U.S. Treasury. The empirical evidence suggests otherwise. None of the personal income tax or capital gains tax increases enacted in the post-World War II period has raised the projected tax revenues."
As the Cato Institute's Dan Mitchell points out, there is nothing magical about Hauser's 19.5 percent number: European countries which have a Value Added Tax (essentially a national sales tax) and/or much higher tax rates on the middle class do extract more of their citizens' earnings. But in the US, in the absence of both a VAT and the political will to raise taxes on the middle class, Hauser's law remains an important idea to understand the impact (or lack of impact) of tax hikes on government revenue.
(3) Democrats argue that the economy did very well after Bill Clinton raised income tax rates, so how much harm could there be in returning to those rates? Republicans are already calling their bluff by saying, "OK, I'll go along with it if you'll go back to Clinton-era levels of spending." (It is a clever political retort, but not actually good economic policy to take that deal.)
But calling the bluff misses an important point: While there are many factors beyond tax rates that impact economic activity, the Clinton presidency had two distinct segments in terms of tax policy. First was the four years after the 1993 tax hike; next is the four years after the 1997 capital gains rate cut forced on Clinton by the Republican Congress. (Then-Speaker of the House Newt Gingrich and his GOP colleagues also kept spending under control and arm-twisted Clinton into grudgingly signing the remarkably successful welfare reform measures that President Obama now wants to gut.)
During the first four years of the Clinton administration, GDP growth averaged 3.3 percent while real wages (salaries adjusted for inflation) actually fell slightly. The first half of the Clinton administration ended with the federal government still running a $107 billion deficit. During the second half of the Clinton presidency, when tax and other policy was strongly impacted by Republicans, GDP growth averaged 4.4 percent, while real wages rose at an annual rate of 1.7 percent. It was this second period, following tax cuts, that the Clinton surplus appeared.
(4) From the "I know that you know that I know" files, Democrats recognize that Republicans are afraid of violating the Taxpayer Protection Pledge which many of them have made to Grover Norquist’s Americans for Tax Reform (ATR). So, Democrats are looking for ways to allow Republicans to vote for Democrats’ tax hike (raising taxes on individuals earning more than $200,000 or families earning more than $250,000) without technically violating the pledge.
One current idea is to allow all the Bush tax cuts to expire before bringing up "reform" for a vote, so that a vote to only lower taxes on part of the population would nominally be a vote for a tax cut. Norquist correctly says that this scheme "doesn't pass the laugh test." No Republican should give a moment's consideration to the Democrats' ploy which is cynical but not surprising, coming from the party of "deem and pass" and other travesties of congressional malfeasance.
Mr. Norquist, who is one of the most powerful players in conservative politics, may be losing influence, even if only slightly, among Republicans. Over recent months, a handful of House freshmen, former Florida Governor Jeb Bush, his father, former President George H.W.Bush ("Who the hell is Grover Norquist, anyway?"), and most recently Senator Tom Coburn (R-OK) have rejected the Pledge as unnecessary and doing little other than giving Democrats political ammunition. Norquist takes none of this lying down, including saying that a recent op-ed by Coburn "is filled with 'lies'" and that if Sen. Coburn wants to raise taxes, "he stands alone." As far as "Bush 41" is concerned, conservatives might find criticism from a man who is perhaps best known for breaking his own "Read my lips: No new taxes" pledge to be a badge of honor for Grover.
While it may be unnecessary for some politicians, the Pledge is an important influence on members of Congress who might otherwise cave in to their baser political instincts. The country is better for the Pledge, and while some flexibility for members of Congress is a good thing, too much isn't. As my mother likes to say, "I promise to keep an open mind, but no so open that my brain falls out." What remains to be seen is whether Republicans who claim that they remain faithful to the Pledge end up in a disagreement with Mr. Norquist about what represents a tax increase.
In particular -- and this is the answer I gave to the congressman who e-mailed me with the unacceptable suggestion for a “balanced” approach -- Republicans, including Mr. Norquist, should go along with almost any tax reform that closes loopholes and ends deductions and subsidies while lowering rates across the board if that tax reform is revenue neutral under a CBO static model. And they should not go along with any tax reform that is not revenue neutral, or which raises marginal tax rates on anyone other than people who currently pay zero federal income tax.
Static modeling, i.e. predictions of the impact of government policy on government cash flows, is always biased against tax cuts because it assumes that people's behavior does not change in response to the policy changes. History shows that static modeling routinely underestimates the benefits to economic and job growth, and therefore to tax receipts, of tax cuts and other pro-growth economic policies. Therefore, any reform that includes tax rate cuts but statically scores as revenue neutral will, all else being equal, actually increase the amount of income received by the government.
Calls for political "cooperation," "bipartisanship," "balance," or other weasel words designed to let Democrats grow government and let RINO Republicans evade politically difficult votes on spending reductions and entitlement reform must be rebuffed. While John Boehner cannot put wax in the Republicans' ears to block the siren song of "can't we all just get along," some form of Ulysses Pact, even if not the ATR Pledge, is in order.
When Republicans consider any tax reform deal that includes raising tax rates on anybody who already pays federal income taxes or closing tax loopholes without reducing rates, they should think of Nancy Reagan and Just Say No.