The only way to keep tax indexing
The current expectation of back-to-back federal deficits in the neighborhood of $200 billion a year reflects an inability to make tough decisions, to choose among alternatives each of which has important attractions. The adamant defense of retaining the scheduled indexing of the federal personal income tax in 1985 is a striking case in point.
In reducing ''bracket creep'' and in eliminating the government's fiscal benefit from inflation, indexing of the tax structure is, of course, an inherently desirable type of tax reform. In fact, many of us used that argument in urging the Congress in 1981 to enact the Economic Recovery Tax Act which, in its amended form, included this provision.
Yet it is clear that tax reduction - and, despite all of the obfuscation, tax collections will be lower with indexing - is part of the deficit problem. We have learned the hard way that - despite a greal deal of wishful thinking to the contrary - cutting revenues does not lead to reduced government spending. Since the passage of the 1981 tax act, federal spending has continued rising faster than the economy; in real terms, the spending path is almost indistinguishable from the one traced out in President Carter's swansong budget message.
We must sadly report that across-the-board income tax rate reductions do indeed increase deficits. Those of us who are committed to a smaller public sector must focus our efforts on the more obvious but difficult approach - direct reductions in the flow of government spending. And thus we see that there is no substitute for getting Congress to appropriate less in the first place.
It is discouraging to see how many of the proponents for retaining tax indexing pay only lip service to the need to slow down the rapid upward trend of government spending. They assure us that they are staunch advocates of smaller budgets. But so many of them fall by the wayside when specific budget cuts are proposed, protesting that defense spending is politically too important to cut, entitlements are too difficult to cut, and the other categories are too small to mess with.
In a very real sense, we have not earned the indexing of the federal income tax structure. If we are to avoid losing that desirable reform of the tax system , we must focus on another round of comprehensive budget cuts. We must not be distracted - as has been the case in the past year - with proposals to increase social security taxes, excises, tariffs, etc.
That highly necessary round of budget cuts should aim at achieving the traditional goal of federal budget practice: good budgeting is the uniform distribution of dissatisfaction. Alas, not enough federal departments and agencies - and their private sector allies - have become sufficiently dissatisfied by the budget cuts that have been made so far. The rationale for shifting from the 5 percent annual real growth in military spending, which was a key point of the 1980 presidential campaign, to 9 percent remains unexplained. Surely our military posture has not deteriorated in these last two years.
Likewise accelerating social security tax collections is no substitute for meeting head on the basic shortcoming of the federal government's ''social insurance'' programs: The benefit payments are far in excess of what an insurance program would be expected to provide - benefits based on the payments by employees and their employers including the earnings on those contributions. Although the term is upsetting to many, the hard fact is that the major portion of the average recipient's monthly social security checks is the equivalent of welfare, a compulsory transfer of purchasing power from somebody else to the recipient.
Nor should the remainder of the federal budget escape tough scrutiny. A host of subsidies to special interests - sugar producers, dairy producers, ship builders, ship operators, exporters, and energy producers, to mention a few - remain in the federal budget. Each one of these items is an attractive candidate for elimination.
However desirable as a tax reform, we should be careful not to claim too much for indexing of the tax structure. For example, some proponents claim that eliminating the indexing provision would produce a powerful incentive for Congress to force the Federal Reserve System to follow an inflationary monetary policy. There is no need to guess what the response would be. In 1981-82, in the absence of an indexed tax system, the Fed pursued a deflationary monetary policy. The notion that the primary motivation of the Congress in the monetary policy area is to inflate the currency in order to reduce the deficit is just plain silly. It flies in the face of experience; if anything encourages excessive stimulation, it is the response to high unemployment.
Similarly, the idea that repeal or postponement of indexing would immediately lead to a rise in long-term interest rates and a weakening of the recovery sounds quite divorced from reality. Passage of the indexing provision surely did not lead to a decline in long-term rates or to strengthening of the economy's growth rate - nor did it cure baldness! If anything, financial markets will respond very positively to the prospect of lower deficits.
Boiled down to its essentials, the case for postponing the indexing of the federal income tax system is one of avoiding instant gratification. We need to cut spending first in order to justify the move to indexing at a time of massive deficit financing. Not only would such cuts make the retention of indexing more likely but, under such circumstances, indexing would become an attractive way of developing pressure to maintain a lower federal spending level. Yet surely we must lower spending first. The priorities are clear: lower taxes do not achieve lower government spending levels; rather, lower spending permits the responsible reduction of government tax schedules.