Fiscal Cliff 2013: Obama Tax Plan Will Solve the Fiscal Crisis

A senior George Bush adviser once mocked those who inhabit the “reality-based community.” He, then, proceeded to praise the ability of the administration to manufacture its own reality. Nowhere has this Republican's mindset been more in display than on the issue of lower taxation.

Despite a mountain of evidence to the contrary, Republicans have stubbornly maintained that lower taxes promote economic growth. President Barack Obama, on the other hand, has been pushing for the restoration of the tax rate that existed on the rich while Bill Clinton was president. Obama pointed out that the economy was booming even though the wealthy were paying much more in taxes. After his big electoral win, Obama has signaled that he will extend the Bush tax cuts for 98% of Americans. However, he does not intend to retain those tax cuts for the top 2%. In spite of the vehement opposition of Republicans to any tax hike, the president only wants to increase the tax rate of the wealthy modestly in the coming year.

During Ronald Reagan’s presidency, the idea that a sharp reduction on taxes would boost the economy had started to take root among conservatives. The economy started growing while Reagan was in power. Since he cut taxes, conservatives linked this economic growth with those reductions in taxes. Advocates of tax cuts have been using the economic expansion that occurred as evidence that lower tax rates would lead to higher growth.

Ever since Reagan, Republicans have embraced the notion that there is a strong correlation between tax cuts and economic growth. Thus, for three decades, tax cuts have become the central plank of Republicans’ economic policy. For six straight elections, Republican presidential candidates always offered tax cuts as the main remedy for whatever ails the economy.

Despite Republicans’ belief in tax cuts as a panacea, there is no tangible data that undergird it. In fact, the evidence belies this certainty. After examining tax policy in the past six decades, the Congressional Research Service, the non-partisan research arm of Congress, found that lower tax rates do not lead to better economic growth. Equally important, Martin Feldstein, who presided over Reagan’s economic team, and Doug Elmendorf, the current head of the Congressional Budget Office, published a paper in 1989 that also demonstrated that the economic expansion that took place under Reagan was not caused by tax cuts. 

In spite of Republicans’ repeated claims that an increase in the marginal tax rate would impact the economy negatively, the evidence does not corroborate such claims. Bruce Bartlett, who worked for George H. W Bush, pointed out that the tax increase that Reagan enacted helped boost the economy. He further indicated that the economy grew at a tremendous pace after former president Bill Clinton increased taxes.

During the 2012 presidential race, Obama campaigned on augmenting taxes on the top 2 percent. The president’s tax proposal is modest. The George Bush tax cuts will be expired at the end of the year. Consequently, everyone will be paying more in taxes. Obama, however, wants to maintain the tax cuts for 98% of the population while restoring the rate that Clinton set for the top 2%. For instance, a couple that is making more than $250,000 will start paying more taxes on “income over $250,000.” An individual who is making more than $200,000 will pay an increased rate only on income above the $200,000 mark. The current rate for the top bracket is 35%. But Obama wants to increase it to 39.5%. Thus, a couple with a combined income of $300,000 will pay a 39.5% rate only on $50,000 ($250,000 + $50,000). A CEO who earns $500,000 a year will pay the higher rate on $300,000 ($200,000 + $300,000).

The wealth of the top earners in the U.S. has grown exponentially in the past three decades.  As the economy started to recover in 2010, the 1% received “93% of the income gains,” which is equaled to $288 billion that were generated during that year. After amassing such vast wealth, the top 2% could pay much more in taxes. Returning to the Clinton’s rate will result in a modest tax hike on the super wealthy notwithstanding the hue and cry of Republicans. Far from being an impediment, the tax increase was a boon to the economy during the Clinton years. But since many Republicans prefer to dwell outside of the reality-based community, they will continue to make dark warnings about the economic calamity that would ensue when the tax rate on the top 2% goes up.