The Economy -- Greenspan Does The Right Thing

Dec. 21, 2004
His proposal reduces taxes gradually as debt dwindles.

Several years ago I floated the idea that at the end of every fiscal year, the amount that taxes would be reduced would be tied to how much the surplus had increased the previous year. If, for example, the surplus had risen $100 billion, taxes would be cut some proportion of that, say $70 billion. If in any given year the surplus had not risen, there would be no tax cut the following year. That had the additional benefit of forcing members of Congress to explain to their constituencies that there wasn't any tax cut this year because they voted for bigger spending increases. Obviously that idea didn't get anywhere, but it was nonetheless interesting to hear Fed Chairman Alan Greenspan resurrect it in his Congressional testimony on Jan. 25. It still probably won't get anywhere; legislators don't like to be held that accountable. Nonetheless, this pay-as-you-go strategy, so to speak, is by far the most sensible approach. Apparently no government official can predict the budget surplus very far into the future; the underestimates of the surplus these days are not much worse than the underestimates of the deficit used to be in the 1970s and 1980s. My own estimates are based on the projection that on a long-term basis, real growth will average 4% and inflation will average 2%, so nominal GDP will increase 6% per year. Under those circumstances, with current tax codes, tax receipts would rise about 7.5% per year, or $150 billion at today's levels of receipts. Expenditures are likely to rise 4% to 5% per year depending on how much social-welfare programs increase, or $70 billion to $90 billion per year at today's budget levels. That means the surplus would rise $60 billion to $80 billion per year in an ordinary year. If 70% of that were given back in the form of tax cuts, that would be roughly $50 billion next year, $100 billion the year after that, $150 billion the third year, and so on until the budget surplus stabilized. The federal debt held by the public is currently around $3.4 trillion, and will fall to about $3.1 trillion by the end of FY2001. If taxes were not cut at all, the publicly held debt would be totally paid off in five more years, or by the end of FY2006. Even more conservative estimates now indicate no remaining debt by FY2008. Greenspan then raises a good point: How would the government invest the surplus? It would presumably have to buy private-sector assets. Would it open a bank account at Citigroup? Buy GE bonds? Coca Cola stock? Whatever decisions were made would have horrific political fights attached. Thus it is only common sense to plan ahead rather than face a major upheaval when the publicly held debt falls to zero. That means tax cuts today and tax cuts tomorrow. The only question is who gets them, the middle class or the rich? It can't be the poor because they don't pay any income taxes anyhow, although they pay plenty in Social Security taxes. Some of the worst features of the current personal-income-tax code, such as the alternative minimum tax, the disappearing deductibles, the marriage penalty, and the death tax, are almost sure to be changed. Also, incentives for saving will be increased. There will be some middleclass tax relief in terms of lowering, or at least widening, the lower brackets. Withholding schedules are likely to be changed almost immediately. I have been unable to find anyone in Washington besides Bush himself who has spoken in favor of lowering the top marginal rates, but maybe that will change. In the short run, the tax cuts will have very little economic impact. The economy will recover later this year, and some will claim it was due to the tax cuts, which is fine with me, but the real reason will be falling interest rates and rising stock prices. In the long run nobody knows the economic impact of tax cuts. The last time the U.S. government had no outstanding debt was in 1835. Greenspan emphasizes that it makes no sense to have the federal government buying private-sector assets, so once the debt is paid down there will have to be tax cuts. It is much more sensible to phase them in gradually than wait until D-day and then unleash additional purchasing power at a time when that might be cyclically inappropriate. Once again, Greenspan has done the right thing. Michael K. Evans is president of the Evans Group, an economics consulting firm in Boca Raton, Fla.

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