TAX CUTS ARE HERE TO STAY -- AND SO ARE EXPLODING BUDGET DEFICITS / THE WALL STREET JOURNAL

Tax Cuts Are Here to Stay—and So Are Exploding Budget Deficits

In recent decades, Republicans and Democrats alike have been reluctant to raise taxes on the overwhelming majority of Americans, or to curb spending

By Richard Rubin

PHOTO ILLUSTRATION: WSJ; PHOTOS: ISTOCK

WASHINGTON—President Biden and Republicans are gearing up for a hyperbolic election-year battle over extending the 2017 law that lowered taxes for individuals and businesses. 

Ignore the noise. 

Most of the fight is already over, and tax cuts are winning again. 

The core individual tax provisions of the 2017 law, which Republicans pushed through Congress and then-president Donald Trump signed, are scheduled to expire after 2025. 

That means lawmakers will have to revisit the tax cuts shortly after the election, no matter who wins control of Congress and the White House. 

Biden calls the law an expensive failure and an unjustified giveaway to the wealthy, while Republicans promise to extend all of the tax cuts, which they see as an unqualified economic success. 

The reality: Even if Biden is re-elected, most of the 2017 law isn’t going away. 

In his budget, Biden has already proposed extending Trump’s tax cuts for almost all households, and he has promised to avoid raising taxes on anyone making under $400,000.

If Democrats hold to that pledge, it largely rules out rethinking provisions that account for about two-thirds of the 2017 law’s cost, such as lower personal rates for almost everyone and the expanded standard deduction. 

And while Biden proposes sharp tax increases on roughly the top 2% of American income-earners, it is doubtful he could achieve much of that even if Democrats control Congress. 

They fully ran the government in 2021 and 2022 but couldn’t raise taxes on the rich due to resistance within their own ranks.

This all attests to a rarely appreciated but significant dynamic: Just as both parties agree that Social Security and Medicare, the two biggest federal spending programs, must not be touched, they also agree that income taxes on the overwhelming majority of Americans can go down but never up. 

That tacit, politically popular consensus keeps tax revenue as a share of the economy flat or declining in the long run while spending’s share rises. 

It also locks in a permanent budget imbalance that both parties bemoan but neither seems eager to change.

“We are at a political equilibrium where both parties compete to pander for middle-class and professional-class votes by promising them endless spending and taxes that can only fall,” said former GOP Senate aide Brian Riedl, now at the conservative Manhattan Institute. 

Tax cuts haven’t just benefited the wealthy. 

The effective tax rate—federal taxes as a share of income—on the middle 60% of the population fell from 19% in 1979 to 14% in 2019, according to the Congressional Budget Office. 

Had Congress left 1997’s tax code alone, households would pay an average of nearly $3,200 more, a 4.4% decline in after-tax income, according to the American Enterprise Institute. 

This year’s deficit would be about 40% lower. 

Instead, the deficit this year is projected at over $1.5 trillion, or about 6% of GDP, and is expected to reach 7% by 2033. 

Federal debt as a share of the economy climbed from 33% in 2001 to 97% in 2022 and is projected to hit 115% in 2033. 

And that’s assuming the tax cuts expire after 2025.

When Fitch Ratings downgraded the U.S. credit rating on Aug. 1, it cited the inability of political leaders to meet fiscal challenges on both the spending and tax sides of the budget. 

Interest costs have increased but there’s no sign yet that these rising debt burdens will cause a crisis, such as sharply higher interest rates that hurt private investment and economic growth. 

Yet through inaction, the U.S. is raising the risk of such an outcome while reducing its ability to respond, budget experts say. 

“You start taking huge swaths of the budget totally off the table before you put anything on the table. 

You’re never going to make progress,” said Doug Elmendorf, former Congressional Budget Office director. 

“If we extend the expiring tax cuts without some other tax increase or spending cut, that will be a serious sign of mismanagement of our affairs.”

Broad income-tax increases aren’t popular, but they once happened regularly—and stealthily. 

For most of the history of the income tax, key provisions, like the standard deduction and tax brackets, weren’t indexed to inflation. 

Since nominal incomes tend to rise with inflation, people would naturally be nudged into higher tax brackets, a phenomenon dubbed “bracket creep.” 

Particularly in periods of high inflation, such as the 1970s, Congress could pass laws that looked like tax cuts but which had the effect of undoing some, but not all, of that de facto tax increase.

Then, in 1981 Congress decided that key tax provisions, including tax brackets, should be automatically indexed to inflation. 

That meant raising taxes often required explicit action by Congress. 

Lawmakers raised Social Security taxes in 1983 in a bipartisan deal to ensure the program’s long-term solvency. 

Then, in 1990, to deal with the deficit, Republican President George H.W. Bush broke his “read my lips” pledge against new taxes and split his own party.

The dissenters against Bush prevailed in the subsequent intraparty fight. 

Since then, cutting taxes and never raising them has been a defining policy position of the Republican Party. 

In 2001, with George W. Bush as president and Republicans controlling Congress, they ensured almost everyone got a tax cut as a way of spreading the benefits of budget surpluses. 

Those tax cuts, after one extension in 2010, were due to expire after 2012, after those surpluses had turned into deficits. 

Democrats, who controlled the Senate and White House, were content to leave the bulk of them in place. 

The big fight was only over which subset of the rich would have to pay taxes at 1990s levels again. 

Then-President Barack Obama had campaigned on preserving tax cuts for individuals earning under $200,000 and married couples earning under $250,000. 

Eventually, the two parties agreed to set the thresholds even higher: $400,000 and $450,000.

When Republicans again controlled both Congress and the White House in 2017, the script repeated. 

Their 2017 tax law cut taxes for almost all individuals, curtailed deductions, slashed the corporate tax rate, restructured international taxation and lowered taxes on closely held businesses. 

All Democrats voted no. 

The two sides have fought fiercely over the law ever since. 

Some Republicans promised the tax cuts would pay for themselves and investment would boom. 

The tax cuts did generate growth in 2018 and 2019 simply by putting cash in consumers’ pockets—what economists call the Keynesian, or demand-side, effect. 

Its authors had hoped the law would also have supply-side benefits: encouraging companies to make productive investments, spurring a virtuous circle of job and wage growth. 

There was initially a rise in business investment that tailed off. 

Now, any long-run effects are small or nearly impossible to tease from muddled pandemic-era data. 

Contrary to claims that the tax cuts would pay for themselves, experts aligned with both parties agree they reduced federal revenue and expanded the deficit. 

Some Republicans disagree, pointing to a big jump in revenue in 2021 and 2022, but that reflected inflation and a spike in capital-gains realizations that has since faded.  

For their part, Democrats attacked the law as a giveaway to the rich, pointing to higher estate-tax thresholds and a special deduction for business owners. 

Democrats sometimes use a misleading statistic, that 83% of the tax cuts go to the top 1%. 

That’s a projection for 2027, assuming the individual tax cuts expire and the corporate tax cuts remain, but it isn’t a reflection of what’s actually happened or is politically likely. 

In 2018, only about 20% of the Trump tax cuts went to the top 1%, close to their share of income. 

Democrats haven’t actually tried to repeal the whole law, setting Congress on the course to extend most of it. 

Indeed, Republicans designed the law to ensure that more than just companies and the wealthy benefited. 

Like the Bush tax cut, much of the Trump cut also had an expiration date. 

The corporate tax rate cut extends indefinitely. 

But to keep the headline, 10-year cost under $1.5 trillion and to avoid needing Democratic votes in the Senate, Republicans scheduled individual tax cuts to expire after 2025. 

They were betting that a future Congress wouldn’t let them expire after Americans got accustomed to eight years of tax cuts.

As it did in 2012, that bet seems likely to pay off again. 

President Biden has pledged not to raise taxes on anyone earning under $400,000. PHOTO: SAUL LOEB/AGENCE FRANCE-PRESSE/GETTY IMAGES

Extending all the tax cuts would reduce projected revenue by about $3 trillion over a decade, or about 0.9% of gross domestic product. 

Biden differs from Republicans, and from the position that Democrats took in 2012. 

He proposes to pay for extending those middle-class tax cuts by raising unspecified taxes elsewhere, such as higher estate taxes or limiting tax breaks for the wealthy, on top of tax increases he seeks to pay for new spending or deficit reduction. 

There are two problems with this stance. 

First, given Democrats’ additional spending plans, it likely wouldn’t by itself stabilize the debt, which Biden’s own budget shows rising as a share of GDP through 2033. 

Second, many of the options Democrats floated for raising taxes on big companies and high-income households couldn’t pass while they controlled Congress because of opposition within their own ranks. 

Democrats don’t look likely to budge on Biden’s pledge not to raise taxes on anyone earning under $400,000. 

“We made that commitment,” said Senate Finance Committee Chairman Ron Wyden, (D., Ore.). 

“The president made that commitment and we’re going to stand by it.”

Then-President Donald Trump signed a landmark tax law on Dec. 22, 2017. PHOTO: EVAN VUCCI/ASSOCIATED PRESS

As a result, the Trump tax cuts for over 98% of taxpayers almost certainly won’t be reversed, and accompanying changes to the standard deduction and personal exemptions are probably locked in, too, because changing those could break Biden’s pledge. 

The 2024 election stakes are large for people making millions of dollars, but the tax code of 2016 isn’t returning. 

Neither are the deficit concerns of 2011 and 2012, when some members in both parties flirted with a so-called grand bargain that would reduce entitlement spending and raise taxes. 

“A dozen years ago, there was more worry about how large deficits and debt would push up interest rates,” Elmendorf said. 

“Having now lived through a dozen years of larger deficits than most people projected and lower interest rates than most people had projected, that threat has receded.”

As lawmakers near a partial government shutdown at the end of September and argue again over agency spending levels, there are few signs that U.S. fiscal politics will change.

Democrats are proposing tax increases on corporations and top earners but mostly to pay for other priorities, not to reduce the deficit: they want to expand the child tax credit so more middle-income families have negative tax rates. 

They used corporate tax cuts as clean-energy incentives in last year’s Inflation Reduction Act.

As college-educated suburban voters shifted from Republican to Democratic, Democrats now represent more affluent constituencies, creating pressure to move the definition of rich ever upward. 

Members repeat the mantra that $400,000 doesn’t make you rich in Scarsdale, N.Y. or Falls Church, Va., and resist the 2017 tax law’s $10,000 cap on the state and local tax deduction, even though it largely pinches high-income households. 

For Republicans, opposition to tax increases remains a core party principle. 

Some conservatives concerned about debt levels may object to new tax cuts, but keeping Trump-era policies beyond their expiration is an easy sell. 

“We’re just looking to sort of take those wins and extend them for a long period,” said Rep. Lloyd Smucker (R., Pa.) 

“I just don’t think it makes sense at this point to be raising taxes in any way.”