In Cleveland today, in a remarkably bitter and partisan speech, President Obama ruled out allowing the Bush tax cuts for those earning more than $250,000 a year to continue because of the recession. Even his former budget director, Peter Orzsag, recommended continuing them in a New York Times op-ed article. If the president gets his way, there will be a sharp increase in taxation on the affluent and on small businesses, many of which are sub-chapter-S corporations, which are taxed via the personal income tax rather than the corporate one.
The president argues that we simply cannot afford the $700 billion that extending the tax cuts for all would cost the government in foregone revenue. That estimate is based, I assume, on the static models that both the OMB and the CBO rely on to forecast revenues and which are always wrong, because the economy is highly dynamic, not static.
We tried raising taxes, especially on the rich, in the teeth of a recession once before in order to narrow the gap between federal revenues and expenditures. That was in 1932. The results were not pretty, to put it mildly. Both houses of Congress passed Hoover’s proposed tax increases by wide margins, and John Nance Gardner, the speaker of the House (and FDR’s first vice president), even wanted to add on a national sales tax, which would have impacted the poor far more than the rich, in order to balance the budget. It didn’t work and the economic decline sharply accelerated. Government revenues in 1932 were $1.9 billion, despite the tax increases. Expenditures that year were $4.6 billion. The deficit, in other words, was 132 percent of revenues, by far the worst peacetime deficit in the nation’s history. Ever since, the idea that taxes should be raised in a recession has been an off-the-table idea. That, after all, was what Herbert Hoover did, not a model later presidents have chosen to emulate. At least until President Obama, that is.
Of course, what Obama wants and what he will get are not necessarily the same thing right now. All the Bush tax cuts will expire on January 1, 2011, not just those on higher incomes. So legislation will be needed. With the politicians in a hurry to go home and campaign, and Democrats in a gathering panic about losing their majorities, who knows what will happen?