Cutting the payroll tax puts more money in the pockets of wage-earners which stimulates the economy. Right? In theory, yes; in practice the verdict is not yet in, but doubts abound.
In an insightful column in Tuesday’s New York Times, economist Bruce Bartlett throws cold water on extending the tax cut for these reasons:
— There is no evidence that cutting the tax from about 6 percent to about 4 percent of a worker’s earnings has done much to stimulate spending. “First,” Bartlett writes, “the tax cut only helps those with jobs. While many have low wages and undoubtedly spend all their additional cash flow, those with the greatest need and most likely to spend any additional income are the unemployed.
“Second, the payroll tax cut helps many workers who have no need for it and will only pocket the tax saving.
“Third, economic theory and the experience with tax rebates in 2001 and 2008, tell us that people are strongly inclined to save temporary increases in income. People only increase their spending when they perceive an increase in their permanent income.
“Fourth, even if one assumes that the cost of employment has declined and employers can somehow capture some of the payroll tax cut, there’s little sign that the cost of labor is the principal factor holding back hiring. The main one is lack of sales, as monthly surveys by the National Federation of Independent Businesses document. In the latest survey, 23 percent of businesses said poor sales were their number one problem and only 4 percent cited the cost of labor.”
Bartlett, a conservative who worked for the Reagan and H.W. Bush administrations and served on the congressional staffs of Jack Kemp and Ron Paul, then goes ahead to make the case that many workers don’t consider the payroll deduction for Social Security to be a tax at all, but consider it an investment they can cash in when they retire.
The Social Security and Medicare programs are seen by many workers as forced investments they make for their own future. In this view, the payroll tax becomes an incentive to work and is viewed as an opportunity rather than a burden.
Noted economists such as Joseph Stiglitz, Peter Orszag and Richard Disney support this argument and conclude that most workers do not resent the payroll tax but consider Social Security and Medicare benefits as providing additional long term security to themselves and their families. There is, in short, little political benefit to cutting the payroll tax and, in fact, the opposite may be the case if workers fear that cutting the tax will have the long run effect of weakening those support programs.
BARTLETT AGREES that additional economic stimulus is greatly needed, but favors a different approach:
“In my view,” he wrote, “the $110 billion cost of the one-year Social Security tax cut would have been far better spent on measures that would actively raise spending in the economy. Public works would be the best way of doing that. Under current economic conditions, all tax cuts are essentially passive and do almost nothing to increase aggregate demand or economic output.”