The good news is that President George W. Bush has just sent his $1.6 billion tax-cut proposal to Congress. The bad news is that it's not optimally configured to give the economy the fast fiscal boost it needs. Worse, political wrangling by liberal Democrats and conservative Republicans threatens to stall passage of any tax-cut legislation until well into the fall, making it ineffective in fighting the current downturn.
As it stands, Bush's income-tax cut isn't much of a countercyclical force. The initial tax cuts come in small, one-percentage-point increments that don't start until next year and are weighted to benefit a relatively small number of well-off families. The same can be said for repeal of the estate tax, which would benefit even fewer households.
Changing the mix of tax cuts to give more to middle- and working-class families would pump money back into the economy faster and more broadly. Making income-tax cuts for the higher brackets retroactive by cutting withholding immediately would give the economy a faster fiscal kick as well. Both Gallup and ABC/Washington Post polls show Americans favor targeted tax cuts over the Bush plan by a sizable majority because they have doubts about its fairness and scope. In effect, they support the kind of tax-cut program that would add more stimulus more quickly to the economy.
Politicians of both parties should listen to the people and act fast. Right now, the two sides are not that far apart in terms of the size of the tax cut. The Democrats have agreed to nearly $1 billion in cuts, not far from the GOP's $1.6 billion. They should just split the difference. That's easy. Determining the distribution of benefits is much harder. Democrats are adamantly against cutting the top income-tax rates from 39.6% to 33%, arguing that it skews the tax-cut benefits to the rich. They have a point. Families who pay most of their federal taxes in the form of payroll taxes deserve a break, too. Tax rebates or credits against payroll taxes should be part of any big tax cut. But Republicans are absolutely correct in saying that the rich and the upper-middle class do in fact pay most of the income tax and deserve a big break as well. One idea: The GOP might consider cutting top marginal rates to 35% but hasten their implementation.
To speed up the process, all other tax-cut proposals should be shelved until next year. That includes estate, marriage penalty, capital gains, and research and development taxes for business. None of these has any countercyclical effects.
A compromise tax cut would not only be fairer, but it also would be a far stronger weapon against possible recession. America needs a tax cut by the spring, not the fall.