The Taxing Machine - Democratic arguments are absurd.

When George W. Bush was campaigning in New Hampshire, his tax-cut proposal was as large as his advisers dared to make it: Its total estimated cost was $1.3 trillion-roughly equal to the entire government surplus, excluding Social Security. At the same time, Al Gore was advocating a tax cut a little less than half that large. Since then, a rather remarkable thing has happened: The Congressional Budget Office has increased its surplus estimate by about $2 trillion-but neither side has budged.

It is understandable that the president has chosen to stick with his original proposal; it was a winning bid, and he has proven a man of his word. But the Democrats have barely increased their counteroffer. They need to be asked: Why on earth not?

Let's start with some Econ 101. Economists have known for many years that an efficient tax system should not tax savings and capital formation, because an economy produces more if it invests in productive capacity. If you reduce that investment with high taxes, you lower economic growth, and-through a vicious version of the well-known process of compounding-this reduced growth has a "reverse snowball" effect: If U.S. growth in the 20th century had been just one percentage point lower, our standard of living today would be below Mexico's.

Harvard economist N. Gregory Mankiw highlighted this result in a paper presented recently at the American Enterprise Institute. Mankiw proposed a very simple hypothetical economy, in which there were only two kinds of people: workers and capitalists. The capitalists owned the machines and employed the workers, paying them their fair market wage. Workers outnumbered capitalists by a large margin, and could guarantee that their candidates would be victorious in any election. Thus, workers could set tax policy with dictatorial power. Mankiw asked a simple question: If workers can set the tax on capital and the tax on labor in order to maximize their own-not society's-welfare, what tax rates should they choose? The answer was quite startling: Rational workers will choose to set the tax on capital equal to zero, because any tax on capital would reduce the number of machines bought by capitalists. This would lower workers' wages, and the reduction, over time, would become enormous.

Zero is the ideal, and this is generally accepted by economists. The Democrats must have searched far and wide for an expert who will defend the status quo, but-despite the liberal leanings of academic economists-they have been unable to produce a single advocate willing to argue that our current system is laudable by any rational standard. Today, we are about as far away from the ideal as it is possible to be. Consider: If a business earns a dollar return on its investment, it must pay 35 cents in federal corporate income tax, and about 6 cents in state corporate income tax. When it then rewards investors by paying out the remaining 60 cents, the investors in turn must, if they are in the top tax bracket, pay 39.6 percent of that to the federal government, and about 7 percent to the typical state government. If the investor virtuously reinvests the money until he dies, then the government will likely take 55 percent of it in estate tax. All told, a dollar of return on corporate investment could be taxed at a rate of about 84 percent.

This is the situation the Democrats are in the position of defending, and it's basically indefensible. The Bush tax cut, which lowers marginal tax rates significantly, would improve economic efficiency. His proposal would be a wise policy even if we were staring at deficits as far as the ...