Tax hikes to woo supply-siders
The supply-siders within the Reagan administration are holding fast to their view that tax hikes are out of the question if we are to restore incentives to work, invest, and save. But, in view of the stormy reception to the Reagan budget, tax hikes will be considered.
As the tax debate develops, several criteria must be kept in mind:
(1) Be wary of a tax hike that brings undesirable distortions in the economy as people make their self-interest decision in response to a revised tax environment.
(2) Do not adopt any tax package that would significantly compromise supply-side incentives. It would be a nice bonus if we could raise taxes and improve supply-side performance.
(3) Any tax hike should entail a fair distribution of the tax burden according to ability-to-pay.
Take the proposal for a gasoline excise tax. President Reagan considered doubling the tax from 4 cents to 8 cents per gallon. The revenue yield of the hike would have been $4.4 billion. In view of the 12-cent to 15-cent plunge in gasoline prices over the last year and a half, a tax hike double or triple what Mr. Reagan considered could be seriously entertained.
During the debate on the gas tax, the supply-siders pointed out the fact that many people do drive to work. This concern can be offset with the view that, when people find more of their income absorbed by the gas tax, they will want to work harder to restore their after-tax income levels. But this excise tax is one of the most regressive in the tax arsenal. The burden on the middle income and the poor, measured as a percentage of income, is much greater than the burden on the upper-income levels.
The way out is to package the gasoline tax with another revenue raiser that places its burden on upper-income taxpayers. The most appealing prospect for the ''marriage'' is the interest-paid deduction for home mortgages. No, don't eliminate the exemption for all. Just reduce the deduction for higher-income Americans.
One way to do this is to have a lid on the deduction. A maximum of something like $4,000 on the mortgage-interest deduction would go a long way toward offsetting the regressivity of the gas tax. Moreover, with mortgage-interest deductions running to nearly $45 billion per year, the limitation has the potential for generating another $5 to $7 billion in revenue. When combined with the gas tax provision, a $15 to $20 billion package could readily be developed.
Yes, upper-income households would respond in the future by purchasing less expensive homes. Surely this will bring forth resistance from several quarters. But there is growing concern among economists that the US tax code has gone too far in encouraging expensive home purchases.
We should welcome some retrenchment by upper-income households in their housing purchases from the perspective of supply-side economics. Economic growth would be enhanced if upper-income portfolios were less dominated by residential housing assets. A shift from housing to stocks and bonds, etc. would expand the pool of available funds for business investment and help bring down interest rates.
Notwithstanding its economic merits, the ''gas/house'' tax proposal would raise a tide of political resistance from the residential construction and real estate industries. In view of the dire conditions of the real estate market, this concern cannot be ignored. Several options are available for softening the impact. The most attractive is an interest-paid tax credit for first-time homebuyers -- in addition to the allowable mortgage-interest deduction.
I would suggest a 10 percent tax credit for interest paid up to $4,000. To provide additional support for first-time buyers, the credit might run for two years. With the tax credit provision, the overall viability of the real estate industry would be maintained - possibly even enhanced. Moreover, this restructuring of the mortgage-interest provision would return the tax system to fostering home ownership rather than extravagance of the upper-income Americans.
Taken separately the two basic elements of the gas/house tax proposals would have little chance of enactment. As a package they offer an equitable path to revenue enhancement in an economy with supply-side incentives maintained and probably even enhanced.