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By Tim Fernholz, Quartz (TNS)
The U.S. government is borrowing a lot of money at high interest rates. In the 2023 fiscal year, the deficit rose to $1.7 trillion—a number the U.S. only exceeded during the burst of pandemic spending.
But the reason for so much borrowing isn’t spending—federal outlays were actually down 2% in 2023. The bulk of the difference came from falling revenue compared to 2022, when the U.S. taxman made out like a bandit as investors closed their positions at the top of the bull market in equities and paid their capital gains bills. The stock market hasn’t been so kind to investors or the IRS this year.
This isn’t a fiscal panic blog about the world’s largest and wealthiest economy, but in a time where interest rates are well above zero, the trade-offs of government borrowing become more important, and rising debt doesn’t suit efforts to fight inflation, decarbonize the economy, or invest in new social benefits. Fiscal experts and policymakers argue that the U.S. needs a new commission to force a fractured legislature to consider debt reduction options. A bipartisan group of representatives has introduced such a bill, egged on by think tanks like the Center for a Responsible Federal Budget.
A commission isn’t a bad idea, but the one under contemplation makes two mistakes. One, it sets a goal of balancing the budget; like an overweight person starting a crash diet, that’s likely to lead to suffering without actually reaching the target. It’s also an open question whether a world with a shrinking number of Treasury notes—the foundation of the global financial system—would be more economically optimal.
A better approach for fiscal planners would be to aim for debt sustainability over the long term, or balancing spending and revenue without including the interest payments made on U.S. borrowing. Even a modest debt reduction package would be better than years of wrangling over radical changes that won’t be made.
The second mistake: The commission ideas put forward aren’t explicit about revenue. The House bill doesn’t set any parameters for talks, so it’s worth looking back at the last big effort—the Bowles-Simpson commission, which brought together lawmakers and outside luminaries to come up with a debt reduction plan in the wake of the global financial crisis.
The result was a balanced collection of spending cuts and tax increases, but one that was rejected by the entire delegation of House Republicans, among them future speaker Paul Ryan, because it included tax increases and assumed the end of president George W. Bush’s tax cuts on the highest earners.
The actual results of the Obama-era fiscal talks were spending caps that arguably slowed the economic recovery, and were ultimately abandoned by Republicans when Donald Trump won the White House. This time around, any fiscal commission should start with the assumption that revenue increases will be included. Any other approach just isn’t—the favorite word of the fiscally minded—serious.
Low revenue is responsible for much of the national debt
Indeed, the driver of U.S. national debt in the 21st century has been tax cuts. In one analysis, the Center for American Progress, a think tank with ties to the Democratic Party, makes a compelling case that tax cuts enacted first by Bush and then by Trump are responsible for a significant chunk of U.S. debt.
The authors look at projections of spending and revenue made in 2012 and 2019 by the Congressional Budget Office (CBO). In 2012, the CBO predicted tax revenues would exceed spending. By 2019, the agency forecast less spending than it had seven years before—but revenue had fallen even further, thanks to tax cuts.
The paper also considers the sources of debt: In 2023, about 26% of the national debt was incurred in the onetime spending boom approved by both parties during the pandemic recession. Another 40% is represented by all other borrowing. But 38% is represented by the Bush and Trump tax cuts.
What can be done to increase U.S. tax revenue?
The good news is that there is space for action. The U.S. has some of the lowest taxes of any wealthy advanced economy, with the national tax–to–GDP ratio sitting at 26.6% compared to a 34.1% average among countries in the Organisation for Economic Co-operation and Development (OECD).
And there are still tax loopholes out there, like preferential treatment for capital gains and charitable contributions, exemptions in social security taxation for high earners, or the exclusion of unrealized capital gains from taxation at death. These could be closed or capped, as the state and local tax deduction was in 2017, one of the few salutary measures in Trump’s tax overhaul.
Enforcement alone can do wonders. The IRS, which won expanded funding to enforce the laws on the books in 2022, says that it has collected $160 million in back taxes this year by seeking payments from some 275 people earning more than $1 million annually. That’s a drop in the bucket, federal budget–wise, but drops add up.
Similarly, it was once thought that fighting offshore tax evasion was nearly impossible, but a new report from the EU Tax Observatory notes that unprecedented information-sharing rules imposed over the past decade have limited the ability of wealthy people to avoid taxes simply by not reporting their income abroad. The authors even speculate about a potential tax on billionaire wealth that could help ease the debt burden.
That report also notes that there’s more work to be done, particularly around the corporate income tax reforms intended to prevent multinational companies from shifting their income to tax havens abroad. International efforts to impose a minimum corporate tax appear to have slowed the growth in hidden earnings, but a series of carve-outs hasn’t eliminated the incentives for companies to seek out low-tax jurisdictions, sending $1 trillion abroad in 2022.
With an election year fast approaching, and House Republican lawmakers unable to agree on a leader of their own party, much less a fiscal position, don’t expect much more than handwaving at responsibility in whatever spending deals kick the can until 2025. But the numbers tell us something: The government can’t cut its way out of the debt problem.
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©2023 Quartz Media Inc. All rights reserved. Distributed by Tribune Content Agency LLC.
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