Three areas that President Obama will have to address during his term in office are the recession, energy and the environment, and the long-run fiscal outlook. The recession is the most urgent. But the long-run fiscal outlook will be the most difficult. Social Security and Medicare would have made addressing the long-run fiscal outlook difficult in any case. (Did you know that the first baby-boomers are starting to draw Social Security this year?) The Bush tax cuts of 2001 and 2003 made it worse. The rapid spending increases of the last eight years made it still worse. The financial crisis and recession are now making it still worse. To be clear, fiscal stimulus today is appropriate, given the weak economy. The trick is to combine it with the minimum damage to future budgets.
I offer some recommendations to the new President regarding tax policy that address all three areas simultaneously:
1. Make clear the intent to let the Bush tax-cuts-for-the-rich expire in 2011 as scheduled. No, the Republicans can’t legitimately claim that this would be a tax increase, because their budget projections (remember, the projections that said the budget deficit would disappear by 2011?) have always built in the assumption that these tax cuts would expire. This plan will help maintain some semblance of long-term fiscal responsibility and therefore help keep long-term interest rates low, which one hopes will have the Rubinomic extra benefit of promoting investment.
2. Give the 90 % or 95 % of American workers who don’t make the highest incomes a tax cut now, as Barack Obama talked about in the campaign. This is good for incentives, good for distribution, and good for boosting demand which is what we need in the short run.
3. Take steps to raise future tax rates on fossil fuels, including gasoline. This would accomplish lots of objectives:
- raise much-needed revenue in the future (or else help finance reductions in tax rates on lower-income workers),
- enhance national security by reducing dependence on imported oil
- improve the trade balance
- reduce emissions of greenhouse gases, particularly in the future by sending the right price signal today
- reduce local air pollution, traffic congestion, and traffic accidents.