A Tale of Two Tax Plans

The gauntlet has been thrown—a battle to control domestic economic policy finds Republicans and Democrats squaring off with competing policy prescriptions. On Monday, Democrats unveiled a ten-year, $136 billion stimulus plan to pre-empt the administration’s more aggressive $674 billion plan to bolster economic growth. While both plans aim to improve economic performance, they take decidedly different approaches. Democrats continue to believe the government can spend its way out of recession, calling for more spending and temporary manipulations of the tax code. President Bush, on the other hand, has offered an aggressive package that, for the most part, focuses on strengthening incentives for economic growth.

Along with extending unemployment benefits, the plan unveiled by the Democrats includes a one-time rebate of $300 for working Americans to boost economic activity. Beyond this, the plan is heavy on government spending, with $10 billion to implement homeland security programs and another $5 billion for transportation spending and infrastructure projects. Medicaid also receives $10 billion and $5 billion is set aside to restore funding to programs cut in the President’s budget. For businesses, the Democrats raise the amount small businesses can expense to $50,000, while allowing a depreciation “bonus” of 50 percent on business investments.

President Bush has taken a far more aggressive stance on economic growth, with a sweeping package of tax cuts and incentives to invest and produce in the economy. To start with, all the tax rate reductions passed in 2001 would become effective immediately, rather than being phased in over the next several years. The marriage penalty would be reduced this year, and the child tax credit would be increased from $600 to $1,000 per child. The tax on dividends would be eliminated altogether, addressing the government’s habit of taxing the same income twice. To address current economic problems, Bush extends unemployment benefits while creating new “personal re-employment accounts,” which have a price tag of $3.6 billion.

The contrast between the plans is informative. The Democrat’s plan is a short-run “fix” intended to provide an economic stimulus. The president’s plan, on the other hand, addresses the fundamentals of the economy, concerned more with improving economic growth than stimulating the economy. The Democrat’s plan views government spending as a source of jobs and growth. The president’s plan views the private sector as the engine of economic growth and seeks to establish incentives that will encourage investors to invest more, producers to produce more, and individuals to work more, expanding the size of the economy. With such a clash of visions, the ensuing debate should be lively.

More importantly, it will be important to remember these distinctions as the debate unfolds. Cries of class warfare, and “unaffordable” tax cuts have already surfaced as Democrats attack the president’s tax cuts. In reality, the debate boils down to who should spend our nation’s resources. Democrats contend that federal spending can create jobs and investment. Yet the government can only spend what it takes from the private sector, either through taxes or borrowing. In this sense, the government is not creating anything; it is simply shuffling resources around in the economy. Yet there is little to suggest the government can direct the flow of resources better than the private sector. One-time rebates have a poor record when it comes to boosting the economy, evidenced even by the lackluster benefits provided by the president’s own tax rebate in 2001. It is ironic that Democrats are proposing a $300 taxpayer stimulus for consumers after harshly criticizing the president for doing so in his original tax bill.

Only in Washington is a tax cut considered spending; the $670 billion price tag reflects revenues that the government will no longer be collecting from taxpayers in the private sector. The “cost” of the tax cut is the taxpayer’s gain. And these resources will not sit idle if left in the private sector. They are resources available to individuals, investors, and businesses. Removing barriers to economic activity, such as an incomprehensible tax code, excessive regulations, and a legal system that preys on success, will allow these resources to be invested in productive activities that create jobs and expand the economy.

The president’s tax plan makes sense, because it strengthens the economy in the long run. Recession or not, it makes sense to ease the tax burden and streamline the tax code; these are policies that benefit any economy. Concerns about deficits should be more directly targeted at the source of the problem, excessive federal spending. To this end, the administration has already sent Congress a warning that it will seek tighter controls on federal spending.

As for class warfare arguments, it is hard to see how strengthening the economy is an issue of class. An expanding economy benefits everyone. Moreover, creating a new 10 percent tax bracket, the child tax credit, and marriage penalty relief benefits far more than just the wealthy. In fact, the president’s plan would provide average income tax reductions of 17 percent for taxpayers earning less than $30,000. All told, families earning less than $50,000 would pay a smaller share of the total income tax burden than they do now.

Big spending and rebates do little to address the underlying symptoms of a stifled economy and offer few incentives to expand economic activity. The Democrats’ proposal ignores the importance of creating a more dynamic marketplace that encourages investors, producers, and workers to expand their economic activity. The Bush plan is focused more directly on these concerns. Not only will lower taxes provide more incentives for all economic actors, but also the call for immediate tax relief will eliminate the uncertainty that clouds economic decisions under the current tax laws, which are slated to expire in 2010. Providing the right economic incentives and putting tax cuts on more sound footing are important steps for a stronger economy.

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