Now that the American election is over and the so-called fiscal cliff draws near, President Barack Obama should seriously consider – no longer with a jaundiced, competitive eye – Mitt Romney’s proposal to limit income-tax deductions.
Such an approach would not be nearly enough to repair the finances of the federal government of the United States, but it would help. Likewise, making the wealthy pay at higher rates will not suffice. But an upper limit on tax deductions could well have the effect of fulfilling Mr. Obama’s promise to tax the affluent more heavily. For example, a maximum fixed at $35,000 per taxpayer would actually bite more deeply into rich people’s income than Mr. Obama’s program. Another method would be to limit deductions as a proportion of income.
If no changes are made to the present arrangements before Jan. 1, 2013, the combination of tax increases and spending reductions that will automatically come into effect will add up to an amount somewhere between 3.5 and 4 per cent of GDP – a considerable shock to the economy, though it would not really be felt all at once, as the flawed cliff metaphor would imply.
Ideally, the President and Congress would agree to a consumption tax similar to Canada’s harmonized sales tax, but neither party breathed a word of such a thing in the election, and it will not happen. On the other hand, a limit on the deduction of mortage interest (a factor in the U.S. real-estate bubble) would bring the American tax system closer to Canada’s. And the United States may well phase in a higher retirement age for Social Security, similarly to recent measures of the Harper government.
In the end, however, well over half of the so-called cliff consists of tax cuts – made by the George W. Bush administration, which relieved lower-income and middle-income earners; the expiry of these will add $288-billion to the government’s revenues in 2013 and $382-billion in 2014, according to the Congressional Budget Office. Payroll taxes and unemployment benefits are the next largest category. Revenue from high-income earners and program spending (including the military) are comparatively minor items.
Nonetheless, the Obama administration would be wise to pursue tax-deduction limits, in part as a gesture toward the congressional Republicans– and in part simply as good policy.