Monday, February 14, 2005

Marginal Tax Rates and the National Debt

At the end of World War II, the US government had a debt of more than 100% of GDP.

The top marginal tax rate back then, which held steady through a two-term Republican Presidency and a brief period of Republican control of the House of Representatives, was about 90%.

By 1960, the federal debt fell to about 55% of GDP. Lo and behold - along comes President Kennedy, who cut the top marginal tax rate to 70%.

By 1980, the federal debt burden had continued to shrink - hitting a low of 32.5% of GDP in FY 1981. Along comes Reagan, who successively cut the top marginal tax rate all the way down to 28%.

The debt soared, doubling as a fraction of GDP in 12 years. George Bush increased the marginal tax rate to 33%, and then Clinton increased it to 39.5%.

Lo! The debt fell again. But by this time, an important divergence has occurred. The "Gross debt", which includes obligations to various trust funds including Social Security, fell to 57.5% of GDP, while the "Public debt" fell all the way down to 33% of GDP. With the growing SS trust fund, it has become important to differentiate between the "real" debt, which includes the trusts, and the "public debt", which does not.

Along comes George W. The top marginal tax rates are cut again, along with cutting dividend taxes by more than half, and planning to phase out Estate taxes at the end of a ten year window, for just one year. With a tailwind of Social Security surplusses, the tax-cutting faction went into overdrive, with many, including the Heritage foundation, opening a line of attack to disavow the SS trust obligations to Social Security beneficiaries.

But lo! Debt as a fraction of GDP is growing quickly again. The White House official estimate shows gross debt hitting 70% of GDP by the end of the decade, and that doesn't even include the cost of making Bush's tax cuts permanent, nor the ongoing costs for military operations and the like.

And lo! The President proposes to finance privatizing Social Security by issuing "transitional" debt that might reach 30% of GDP, as well as pissing away the SS trust assets (for a total increase of the publicly held debt around 60% of GDP).

That would bring our federal debt back up around the level at the end of World War II.

Do you suppose that the "deficits don't matter" faction of the GOP will continue to reign supreme as our debts approach the level required to win a World War? Or will traditional conservatives regain control of the GOP, and use traditional methods of paying down debt?

Signs suggest some conservatives would rather avoid letting the debt get that high again unless there's a real national emergency that calls for it.

It seems that some traditional conservatives might prefer to take a stand while the federal debt burden remains reasonable, but if they lose now, 90% marginal tax rates might come again, brought to you by a GOP majority in 2045.

Friday, February 04, 2005

Back in the day.

Barry Goldwater, a real conservative who said what he meant, wanted to make Social Security 100% voluntary.

George Bush, used car salesman, figures he'll try making one-third of Social Security sort of voluntary.

Given all the talk of transition costs these days, let's imagine what it would take to allow some people to "opt out" of Social Security. Suppose you could choose to opt out, but you had to pay your share of the burden of paying benefits for everyone who has paid in to the system and has benefits owed to them.

What would your tax rate for those contributions have to be? With a rough, back of the envelope calculation, I calculate a liability of about 70% of GDP, or somewhere around $8.5 Trillion bucks, current value. That works out to about $31,000 bucks per capita, or $120,000 for a family of four, to immediately shut down Social Security but continue paying all benefits accrued.

OK. So, if you want to let someone now entering the workforce to voluntarily opt out of one-third of SS, you'd still have to charge them something like $20,000 bucks to cover their share of the legacy obligations to people who have already paid in to SS, and ALSO "claw back" one-third of their traditional Social Security benefits.

This is all back of the envelope calculations. But it does sound like people who are only going to be charged 3% real interest rate against full benefits in order to be allowed to voluntarily forgoe one-third of their Social Security obligations would be subsidized by everyone who stays in the system by about $20,000 bucks apiece.

If we weren't going to subsidize them, we'd have to charge a good deal more than just a 3% "clawback" for people voluntarily opting out of one-third of Social Security benefits.

But instead, it sounds like this will mostly be paid for by huge benefit cuts for everyone in the system, as well as a big runup in the federal debt.

Those huge benefit cuts will inevitably mean more people will want to stop participating in Social Security, since it will become a worse and worse deal.

Would the last person out, please turn off the lights? And hey, seniors, don't worry, your benefits will not be cut!

Thursday, February 03, 2005

A simple proposal for the SS trust fund

The US government currently is spending more than $1.40 for every dollar of revenue brought in "on budget".

Meanwhile, the old age Social Security trust is bringing in $477 Billion of FICA tax revenue and $78 Billion of interest, while old age benefit payments are only $413 Billion. That's a $138 Billion surplus, meaning the old age trust is bringing in more than $1.30 for every dollar spent.

But, we are told, the treasury bonds in the SS trust fund are meaningless. They don't represent borrowing that would have otherwise had to be financed publicly; instead, they are just worthless IOU's.

A simple solution to this problem is to uncap the FICA tax any year between now and about 2030 when the unified federal budget runs a deficit, and apply that tax not only to wage income, but also to capital gains, dividends, and interest income.

That would force the government to really balance the budget so fast that we wouldn't see another penny of red ink for 25 years. Lobbiests would line up pleading with the federal government to stop borrowing and spending.

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