Obama's economic plans: just say no (to much of it)

By Megan McArdle

Turnabout being fair play, I now take this station break to be scathing on the subject of Barack Obama's economic plans:

Obama calls for more tax benefits to individuals but more taxes on high-income earners. He would keep in place some of the Bush tax cuts and institute a permanent R&D credit. He would increase the maximum capital gains tax rate from 15% to 25%, tax hedge funds managers' share of their clients' earnings as ordinary income rather than capital gains, and implement a payroll tax surcharge on people who earn more than $250,000 annually.

On trade, Obama suggests renegotiating the North American Free Trade Agreement, and implementing strong environmental and labor provisions in future trade deals. He wants to see a permanent renewable-energy tax credit to promote investment in wind and solar resources. He's in favor of legislation that would help workers join unions if they wish.

What do the two approaches have in common? Both could prove expensive. A recent study by the Tax Policy Center, a Washington think tank, says both candidates "have proposed tax plans that would substantially increase the national debt over the next 10 years"--Obama by $3.4 trillion, McCain by $5 trillion. The White House said Monday the federal deficit will reach a record $482 billion in fiscal year 2009--about $75 billion more than previously thought, thanks to the recent economic stimulus and economic downturn.


I hear disquieting rumors that Obama is not just saying he wants to revisit NAFTA in order to pick up a few votes--apparently he is really serious about this.  Nor is his support for letting employees bully their coworkers into joining unions exactly putting a spring in my step and a song in my heart. 

As if those things weren't enough, he wants to raise the capital gains tax.  There is a reason that most companies tax capital lightly--actually several reasons.  The first is that capital is mobile, and the second is that capital means new investment, which gives us shiny new things we like, such as fMRI machines and electric cars and yes, iPhones.  Savings represents a tradeoff between current and future consumption.  Given that peoples' time preferences are biased towards the present, we want to make the payoff to deferring consumption as attractive as possible.

Equity capital is taxed twice in this country--once when the company makes a profit, and a second time when the capital is distributed to its owners as dividends or capital gains.  The combined rate is 15% + 35%=50%, or a whole lot higher than the personal income tax rate.   This is not optimal for savings. 

Ah, you will say, but corporations actually spend an enormous amount of time structuring their income to avoid taxes, so the rates aren't that high.  But this is an equally big problem.  All of that activity is an economic loss--it consumes resources that could be put towards something useful, like erasing all traces of the Neil Diamond box set from the face of the planet.

I know what you are thinking, my little chickadees--the corporations shouldn't do that.  And perhaps you are right.  But when you set up systems that cost people a great deal of money, they will go and try to minimize their tax bill, no matter how earnestly you explain that they are shirkng their social duty.  And there is no government failure more dismal and glaring than the eternal attempts to "close the loopholes" in the corporate income tax.  That's because most of the loopholes are actually there to alleviate valid concerns.  Moreover, attempts to "close the loopholes" end up making the tax code vastly more complicated, which increases compliance expense, administrative expense, and uncertainty--and in many cases, actually create more loopholes than they closed.

Worst of all, the corporate income tax and the capital gains tax aren't really very good at doing what they are supposed to do, which is make sure that the bulk of our income tax burden falls on those who will miss the money the least.  Let me posit something which isn't very controversial among tax professors no matter what their political party:  you can't tax a corporation.  That's because corporations have no feelings, and no assets, of their own.  Ultimately, the money always comes from some person:  customers, employees, owners, or even suppliers.  But the corporate taxes are not targeted by need; they come from whoever the corporation can best squeeze the money out of.  The old lady in Dubuque with 100 shares of AT&T pays the same 50% rate on corporate profits as Warren Buffett. 

It would be much better to eliminate the corporate income tax and tax dividends and capital gains as ordinary income.  Barring that, raising the combined rate on corporate profits to 60% from 50% is a very, very bad idea. 

The rest of it doesn't wind me up particularly one way or the other--I don't think that higher marginal tax rates on the rich are going to plunge the economy into the next Great Depression, as McCain's team is implying, and I think the payroll tax should be rolled into the ordinary income tax, so raising the cap doesn't bother me particularly.  Of course, I'd rather see him get serious about entitlements, but that's a rant for another day; once we've spent the money, we've already effectively taxed, and I don't think these other mechanisms are notably awful ways to raise the necessary cash.  But the trade and capital gains components are bad enough to make me take a long, loving look at Bob Barr.

This article available online at:

http://www.theatlantic.com/business/archive/2008/07/obama-apos-s-economic-plans-just-say-no-to-much-of-it/3892/