Wednesday, January 30, 2013

Budget Inflections and Reflections

You may ask yourself, well, how did we get here?

As we approach another debt limit deadline, I got thinking about curves and caves. (Huh?) Humor me for a minute.

National income ebbs and flows with the business cycle (curves). Holding everything else constant (economists love this phrase), income and tax receipts rise when business is good. When business is not so good, national income and tax receipts fall – that is, they cave.

But the major political parties' ideologies have trapped us in a specious game. Conservatives argue that when tax revenue is high we need to lower taxes because "it's the people money"; when tax revenue is low they argue that lowering tax rates will spur growth to bring in more revenue. Liberals argue from the other side of the budget equation saying that when economic growth lags we need to spend more to "get the economy moving" while in times o' plenty we need to "invest in America". Graphically:

The problem is that the curve doesn't make it back to the horizontal axis anymore.  Both approaches continuously throw gasoline on the economic fire so that surpluses are short lived and debt retirement an afterthought. In deep troughs of the business cycle, stoking the fire requires a lot a gas. The remedies of more spending and less taxing cause the economic fire to flare and fade without sustaining itself. And it's one reason our national debt has grown so quickly over the last 10 years.

So what do we do? Find our stride and stay with it. In a recent Financial Times article on the complicated and inequitable nature of America's tax code, the comment was made that the "first obstacle in tax reform will come when lawmakers have to settle on a revenue target."

No – that's backwards. The first priority of tax reform is to craft a code that's equitable, broad, consistent, and expected. From that framework Congress can then set budget priorities and tax rates that result in no additional long-term debt. Talk of raising revenue without setting budget priorities leaves me cold and empties our national gas can.

Let's determine our needs first then raise revenue to meet the needs while paying off some debt during the good times. That approach keeps the economic fire burning bright without burning a hole in our national wallet.