Booboo economics. (Forward Observer).(tax policy)(Brief Article)

At last, we're headed for an honest debate between two different approaches to tax policy. The question on the table: Are higher taxes good or bad for an economy that has slowed down?

The battle is being joined because the Congressional Budget Office has pared its projections of U.S. budget surpluses. Last January, the projected surplus over the next ten years stood at $5.6 trillion. That number was re-estimated at $1.8 trillion in December.

Why the decline? Three reasons. Because it uses "static analysis" (simply viewing tax cuts as straight revenue reductions, ignoring any economic acceleration created by the lower levies), the CBO estimates that the tax cuts enacted in June will deprive Washington of $1.3 trillion over the next decade. Second, the economy has moved into a recession that economists did not factor in a year ago. And, third, the terrorist attacks of September 11 have led to boosts in federal spending.

In a speech on January 4, Senate Majority Leader Tom Daschle called the federal surplus decline "the most dramatic fiscal deterioration in our nation's history." That's nonsense. The decline may even be beneficial, since it could prevent legislators from embarking on the spending sprees that surpluses provoke.

But the argument presented in this speech by Daschle--the nation's top elected Democratic official--is important. He defined a fiscal position that is economically erroneous and politically perilous.

Daschle asserted "the rapidly disappearing surplus is a key reason long-term interest rates have barely budged" despite reductions in short-term rates by the Federal Reserve. "Investors understand that the dwindling surplus means the federal government may have to borrow money soon or, at the very least, won't be paying down nearly as much of the debt as had been expected. That is keeping rates higher than they would have been." Thus, tax cuts "probably made the recession worse."

This argument comes straight from the playbook of Clinton Treasury Secretary Robert Rubin. Rubin believes that a hike in marginal tax rates on the most productive Americans is what ignited the economic boom of the 1990s. His logic goes like this: