Biden should tax the rich to reduce the deficit
All the while, he had a fixed idea: the rich had to pay their fair share.
So when the grand compromise talks finally broke down, Obama turned to a simple message: repeal Bush’s tax cuts for the wealthy and use savings to cut the deficit. And after his re-election, it largely happened. He obtained a tax increase which, although somewhat lower than what he had proposed, was still significant and fell exclusively on the wealthy. And it was not used to pay for new programs, but to reduce federal borrowing.
The strategy has been politically and legislatively successful. Unfortunately, given the conditions at the time, this made no economic sense. Government borrowing costs have been extremely low throughout Obama’s presidency. Federal Reserve short-term interest rates were at zero. And inflation was low while unemployment was high. New tax revenues could have been invested in programs that put people to work building infrastructure. Or if congressional policy had made that unworkable, the fiscal terms would have allowed Obama to trade an extension of Bush’s tax cuts for Republicans agreeing to spend more money. The economy needed stimulus, not austerity.
Biden’s economy, however, could make good use of Obama’s old formula.
In the grip of inflation, we face a fundamental problem: voters want to lower prices. This can be done by slowing aggregate demand, but in practice it means lower incomes for Americans. People want cheaper gas at the pump and beef at the supermarket, but lower paychecks would be a high price to pay for those things.
Hence the attraction of soaking the rich. By taking money from the pockets of millionaires, it is possible to suck demand out of the economy and drive prices down in a way that leaves most people’s incomes untouched. The catch is that the money really has to be used to reduce the deficit. Taxing the rich to transfer them to the poorest is inflationary, since the less rich have a higher marginal propensity to consume. But taxing the rich to cut the deficit leaves them with less money to spend on jacking up the price of homes, food, gas and cars for everyone else.
Of course, raising taxes alone would not end inflation.
Interest rates are going to have to rise, as the Fed says and as all market participants expect. And within reason, there’s nothing wrong with higher interest rates. They might even have some advantages over the ultra-low rates that have prevailed for most of the 21st century. Yet there is something a little paradoxical about using higher interest rates to fight inflation; they act most directly to limit investment, whereas, in a sense, higher levels of investment to increase the productive capacity of the economy might themselves be a partial solution to inflation. Fiscal policy, while not as nimble as monetary policy, more directly targets consumption and can be structured to pinch the wallets of those who can most afford it.
Biden already has a big tax plan for the wealthy in the form of about $1.7 trillion in tax hikes his economics team negotiated with moderates in Congress when crafting the Build Back Better package. It fell apart because Democrats couldn’t agree on exactly how to spend the $1.7 trillion. But about $350 billion was supposed to subsidize carbon-free power generation in the United States — an idea well suited to Democrats’ long-term ideological aspirations and short-term imperatives as well.
Spending all of the balance (or almost all of it; Democrats should certainly fund whatever pet project Sen. Joe Manchin wants to fund) on deficit reduction would be a bitter pill for progressives to swallow. At the same time, an ambitious push for clean energy plus deficit reduction funded by taxing the rich would be a much nicer outcome than the one they’re headed for right now: pass nothing and lose control of Congress at the fall. Politicians must play the cards they have been dealt. The country is grappling with an ongoing pandemic and a European security emergency. Neither is high on the to-do list of progressives, but they are significant governance challenges and they generate inflation that hogs public attention. Taxing the rich to reduce the deficit is a traditional progressive concept and also one that Manchin endorses.
This style of politics fell out of favor on the left, mainly for the very good reason that it was inappropriate for the macroeconomic circumstances of the mid-Obama years. But times have changed and policy makers must change with them.
More other Bloomberg Opinion writers:
• Inflation brings economy back into K-shape: Conor Sen
• It’s not the Fed’s job to stop supply-side inflation: Ramesh Ponnuru
• Fighting inflation may force the Fed to be brutal: Clive Crook
This column does not necessarily reflect the opinion of the Editorial Board or of Bloomberg LP and its owners.
Matthew Yglesias is a columnist for Bloomberg Opinion and writes the Slow Boring blog and newsletter. Co-founder and former columnist of Vox, he is also the author, more recently, of “One Billion Americans”.