The United States is currently entering what could be a very long and perhaps unending financial crisis. We are nearing the brink, the tipping point beyond which there is no reasonable hope of recovery. This is very troubling. This is a problem that needs to be addressed immediately and aggressively. It is important to keep in mind, however, that there is a significant difference between what people say and the reality of the situation. We need to look at the basic, overall picture of what is going on, and distinguish the truths that will help save us from the fallacies that are spun only to fortify an opinion or promote specific policies.
Contrary to what some people would like to suggest, the blame for our budget crisis cannot be placed on any single policy item like the war in Iraq or the financial bailouts or the healthcare reform bill that is currently being debated. The war and the bailouts were certainly major expenses, but not necessarily ones that were entirely negative, and the (independent, nonpartisan) Congressional Budget Office has in fact made it quite clear that the currently proposed healthcare reform measures would actually help to reduce the budget deficit when compared to the status quo. The problem we face is much bigger than any single policy or bill. It is actually very simple. The government spends more than it makes.
Our most recent (and current) period of spending more than we earned started in the early 2000s. We started with a budget surplus of several hundred billion dollars that Clinton had created (it didn’t exist when he entered office, but did by the time he left), but by 2003 we were in the red and going further into debt. [see figs. 1A and 1B] What happened during this period? Spending went way up and income went way down. Specifically, George W. Bush sent the country to war and lowered taxes at the same time. Going to war wasn’t the problem. Lowering taxes wasn’t the problem. It was these two things happening at the same time that caused the problem. Instead of revenue and expenses keeping pace with each other, they went in the opposite direction. That’s what the problem was, and is. The United States essentially took a big pay cut but bought a bigger house and a new car anyway.
Fig. 1A: Budget deficits and national debt increases over the past decade.
Note that the Clinton administration created the 2001 budget. The Bush-43 administration created the budgets from 2002 to 2009. Obama’s first budget was 2010, which was planned in early 2009, and is not shown because the year is obviously not over yet.
Fig. 1B: Tax revenue compared to expenses as a percentage of GDP.
For most of the time, expenses were greater than income. We were starting to get back into the black during the Clinton years, but Bush-43 took us back into debt.
Historically, the income tax rate has gone up during and after a war. They cost a lot of money (and lives, but that’s a different discussion), but we realize that we have to pay for them somehow. We act rationally and responsibly by raising taxes and paying off our debts. During and after World War Two, for example, income tax rates spiked to 94% for the top tax bracket and 23% for the lowest. The top tax bracket then stayed above 80% until 1964, and remained above 50% until 1987. As of 2009, however, it was just 35%, one of the lowest top bracket income tax rates since before World War One. [see fig. 2] Furthermore, the current income tax rate for the lowest bracket is currently just 10%, which is even lower than it was during Reagan’s administration.
Fig. 2: Income tax rate for the highest income bracket over time.
Citizens currently enjoy incredibly low income tax rates, but it is at the expense of the nation’s financial health.
Unfortunately, since the early 2000s, we have been irrational and irresponsible. We have spent more and more money while taking in less and less. Our situation now may not be nearly as dire as what was happening during the 1940s, but we are at war and we do need to fund it somehow. Rather disturbingly, our income tax rates were decreased to near record lows at a time when they should have actually been increased. It’s really not surprising that we have such a problem now.
Most people would agree that our country’s expenses should reflect tax revenue, but tax rates should also reflect expenses. This means that when costs go up, we need to not only cut costs to offset the disparity, which everyone seems to be in favor of, but also increase revenue to pay off the debt that has grown, which few people enthusiastically support. But the latter does have to be done, and soon. The reasons for this are twofold. First, for several years now, we haven’t even been making enough money to pay for what we are already doing, regardless of what we may do in the years to come. Our debt has continued to climb up and up to just about the point where all the cost cutting you could possibly do will not get us out of debt. Second is actually the reason that cost cutting alone cannot get us out of debt, and that is because the nondiscretionary part of our budget (meaning the stuff we absolutely have to pay, like Social Security and Medicare) now eats up the vast majority of our nation’s annual total tax revenue. This stuff can’t be cut. At all. Period.
The difference between the total government revenue and the nondiscretionary expenses is what is left over for discretionary, or “optional” items. Those are the only things that can be cut. However, that difference is extremely small right now, and those expenses aren’t exactly optional, either… just adjustable. Because that difference is so small, yet our country still needs to continue to operate, we are forced to spend significantly more on discretionary items than we can afford. In fact, the majority of the money that pays for discretionary items comes from increasing our debt. [see fig. 3]
Fig. 3: Total revenue and expenditure estimates for 2010.
The distance from the top of the blue total revenue bar on the left and the division line between discretionary and mandatory spending sections on the right (right where it says “potential disaster”) is the total amount of money we have to spend on discretionary items without increasing our debt. The mandatory, nondiscretionary items cannot be reduced, so the only way to balance the budget without completely eliminating all federal departments and agencies including the entire military is to significantly increase revenue.
Anyone who tells you that cost cutting alone can solve our budget crisis is either lying or poorly informed. As of the 2010 budget, you could completely eliminate every single department and agency our country needs to run on and dissolve the entire military and we would just barely break even. (And forget about paying off any of that debt, by the way. Only the interest on our debt is a mandatory expense.) That’s how little money we have to spend after the nondiscretionary budget items are paid for. Part of the reason for that is that government’s estimated revenue for this year is lower due to the recession, but we were still in the same budget deficit situation several years ago when the economy was booming, just to a lesser extent. So either way, cost cutting just isn’t enough. We need more revenue.
One thing we know is that the essential, nondiscretionary expenses are relatively predictable and that they are certainly not going to decrease. That means that nondiscretionary spending as a whole is a relatively steady expense. Therefore, the fewer taxes and other revenue we take in, the larger percentage of that money is going to pay for those expenses. That’s the situation we are in now. What we need to be doing is increasing overall revenue in order to decrease the relative percentage of that money that is being spent on the nondiscretionary items. That will make the difference between our total revenue and the cost of the nondiscretionary items larger, meaning we have more money to spend on discretionary items (which, again, aren’t really optional). This is the only way we can increase the ratio of discretionary to nondiscretionary spending to a proportion that is reasonable and sustainable. Remember, nondiscretionary spending cannot be reduced. Revenue must go up.
The very best way to increase government revenue is to increase income taxes. Income taxes make up nearly half of the government’s total annual earnings. [see fig. 4] Approximately equal to that are the combined receipts from Social Security and payroll taxes. The government could, theoretically, charge people more for their Social Security benefits, but the resistance to that and issues it could cause are probably significantly greater than simply raising income tax rates. They could also introduce new tariffs on imported goods or establish various other taxes on other things, but they would all be drops in the bucket compared to raising income tax rates. (The government does, however, need to do a major overhaul of both the Social Security system as well as Medicare and Medicaid at some point over the next decade or so, or else the rate at which they are growing will cripple our economy entirely. They’re already in debt, and the Government Accountability Office has predicted that these programs will eventually push mandatory spending far beyond any possible government revenue rates sometime between 2030 and 2040.)
Fig. 4: Total revenue estimates for 2010 by source.
Income taxes make up nearly half of total government revenue. You can’t really spend Social Security money on other things, and increasing any of the smaller items wouldn’t have much of an impact, so income taxes need to increase.
There may be some who argue out of ignorance that we don’t need any discretionary expenses at all, that all of the essentials the country needs to run on are covered under the nondiscretionary items, but they would be sadly mistaken. All of the government departments and agencies are discretionary in the federal budget. [see fig. 5] Everything from the Department of State and Department of Education to the Department of Defense and Department of Homeland Security. All of these agencies are rather important in the operation and well-being of our country, to put it lightly.
Fig. 5: 2010 budget spending by category.
Nondiscretionary items include Social Security, the unemployment/welfare/other category, Medicare, Medicaid, and the interest on the national debt. Everything else is discretionary, most of which has been funded over the last several years by borrowing, and sending us further into debt. Note that the full circle represents what we are spending, which is far greater than what we are earning.
That’s not to say that cost cutting shouldn’t also be employed to help get our country back in the black. If you’re looking for a nice, big, juicy chunk of the discretionary budget to cut, try the Department of Defense. Their budget is enormous, at roughly one-fifth of the entire federal budget (both nondiscretionary and discretionary combined). It makes up about half of the discretionary budget alone, easily its the largest single item. It is so large, in fact, that the combined budgets of the Department of Health and Human Services, Department of Transportation, Department of Veterans Affairs, Department of State, Department of Housing and Urban Development, Department of Education, Department of Homeland Security, Department of Energy, Department of Agriculture, Department of Justice, Department of Commerce, Department of Labor, Department of the Treasury, Department of the Interior, NASA, and the Environmental Protection Agency do not even equal the size of the defense budget. (Those were all in descending order of budget size based on the 2010 budget, in case you were wondering.) But again, even getting rid of all of those things completely will still not do the trick. We still need to bring in more money.
What has become painfully clear, through continual, but much needed repetition, is that we need to be earning more money. Whether we should be spending our money in the proportions currently budgeted is another issue entirely, but we need to be earning enough money to cover our expenses. Taxes should absolutely not be cut when spending is increasing, especially when it increases dramatically like it has during the better part of the last decade. Doing so is simply foolish. We must raise income taxes if we are going to have any real hope of paying off our debts and balancing the national budget.
The twist to this story, of course, is that we have just gone through a major economic recession. It is just about universally accepted that raising taxes at any point during the past two years would have almost certainly hurt the rate at which we are now recovering. Fortunately, things are looking a bit better now and people are becoming more optimistic. Millions of Americans are still unemployed, and the job prospects are still fairly bleak, but the stock market has gained consistently for almost 11 months now and companies are starting to see a turnaround. At least the people who have money are back to making more of it, so we need to start thinking about inching up the income tax rate for the highest income brackets. 2011’s budget, which is going to be planned in just a few months from now, should start to address this issue. Then, once we have suitably gone from being just stable to starting to grow a little bit, tax rates overall should be pushed up slightly to help stave off our current and growing budget problems. At no time should a reduction in income tax rates even be considered. We simply cannot afford it.
In the meantime, there are a few things we could do to help increase government revenue without having a negative impact on the economic recovery. We could tax and/or increase taxes on any items that are bad for us, like cigarettes and alcohol. This would generate more income while discouraging use of such damaging products. We could tax and/or increase taxes elective surgery and elective medications (think: performance enhancing drugs), making money off of things that aren’t necessary. We could end farming subsidies, eliminating lots of wasted spending (although I personally would divert at least some of this money towards promoting healthy foods). We could withdraw our military forces from all of the bases in all of the dozens of countries all around the world that we occupy even during peacetime, which is not only unnecessary and very costly, but is also seen by some (especially our current enemies) as a provocation. We could tax all revenue generated for US-based companies by outsourced employees, making money and encouraging job growth here in America. We could introduce a flat tax on all imported items, which would not only take advantage of our massive trade deficit, but also encourage people to buy American-made products and services which has its own positive economic effects. We could tax all processed food and drink products and/or those that use biologically-modified ingredients, promoting both better health and stronger tax revenue. We could tax the greenhouse gases that companies emit into the atmosphere instead of just letting them emit a certain amount for free, thereby creating extra revenue while helping to clean up the environment.
These are just some of the ideas that could be implemented that would have a relatively small effect on individual people when compared to taxing them directly. Although, that really needs to come into play later on in another year or two, too. And in a pretty big way. Once our economic situation is straightened out a little bit more, the highest income tax bracket needs to go from its current rate of 35% to at least 50%, and it will need to stay there for a while, preferably indefinitely. It might even be a good idea to increase it even further temporarily until the bulk of our outstanding debt is paid off. A few years after the first high income tax increases, the lower tax brackets should be increased, with the lowest going from the current 10% to 12% at the very least, with an eventual increase to 14% or 15% being ideal. Then we will finally be making enough money.
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