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To cut or not to cut -- the fiscal conservative's question

By W. James Antle III
web posted January 10, 2005

Economic conservatives have entered the New Year in a precarious position. Two of their signature items, Social Security reform that would transform the program from a massive entitlement into an engine of private wealth creation and tax reform that would make the internal revenue code less biased against savings and investment, loom large on the Bush administration's second agenda. But the political feasibility of these plans is uncertain and conservatives are divided over the exact form they should take.

In theory, free-marketeers should find both big-ticket items easy going. With more than half of U.S. households now invested in the stock market, polls over the last decade have shown Americans becoming increasingly supportive of diverting payroll tax revenue into personal investment accounts. The public is similarly sympathetic to the goals of tax reform, regarding the current tax code as too time-consuming and complex, and would likely become more so if it was conducted in a manner that left taxes lower in general.

But just because the public endorses the general principles behind these reforms doesn't mean they will embrace the details over whatever program emerges in Washington. A decade of debate has succeeded in teaching large segments of the electorate that Social Security is a pay-as-you-go system with a fictitious trust fund. Today's workers actually finance the benefits for current retirees. Shifting some of the money that would otherwise pay for retirees' benefits into personal accounts for the workers, however, would create what Beltway lingo describes as transition costs. Entitlement reformers, who rely heavily on their cachet as innovative good-government types, have been slow to come up with publicly accessible arguments about where this money is going to come from.

Nor is tax reform necessarily an easy sell once you are dealing with an actual bill rather than just broad concepts. In order to clean up the tax code and keep any marginal-rate cuts revenue-neutral, certain deductions that powerful special interests or even the general public will like may end up on the chopping block. If the eventual legislation doesn't include any offsetting tax cuts, the voters may not have any reason to support it. If it does contain tax cuts, it will open up political arguments about fairness -- usually a shouting match over what percentage of the tax cut will go to that famous top 1 percent - and the budget deficits. The president has appointed a tax-reform commission to be chaired by former Sens. Connie Mack (R-Fla.) and John Breaux (D-La.), but the recommendations of the last such commission, headed by Jack Kemp, went nowhere.

While President Bush's previous tax cuts have been a net benefit politically (as well as economically), they have not come without costs. A sizeable portion of the electorate agrees with the Democrats that these cuts have contributed to the deficit and unacceptably increased the national debt. Outside of supply-side circles, the tax cuts don't seem to be given much credit for easing the economy out of recession. Even though most economic indicators have improved since the lower rates on labor income, dividends and capital gains have taken effect and 2.5 million new jobs have been created since August 2003, there appears to be a greater sense of foreboding about family financial prospects than during the peak of the boom that followed the Reagan tax cuts.

Fiscal conservatives have cluttered their message of safeguarding taxpayer money and responsibly restraining government with a high tolerance for borrowing and public debt. Many voters no longer see the distinction between conservative Republicans and liberal Democrats as a debate over whether they will be allowed to keep what they earn; instead, it is seen as a semantic argument between the Democrats' tax-and-spend versus the GOP's borrow-and-spend.

Indeed, economic conservatives were a less important part of Bush's reelection than conservatives concerned about moral issues or anti-American terrorism. Tax cuts are popular, but less salient than when the top marginal income-tax rate was 70 percent and the economy was clearly being strangled by stagflation. And it's possible that voters will perceive Social Security reforms as being less fiscally responsible if they rely too heavily on an increase in short-term borrowing.

This last point has triggered a debate among Washington fiscal conservatives themselves. The White House is said to be considering price indexing, under which Social Security benefits would rise at the rate of consumer prices rather than wages. This would allow benefits to keep pace with inflation, but payments today's workers might be as much as 40 percent lower than what they would be under wage indexing.

Price indexing would promote the long-term solvency of Social Security while offsetting the short-term transition costs created by personal accounts. It also might help reformers pass much larger personal accounts than would be politically possible if the transition costs were entirely covered by borrowing.

The bright side is that it would be much harder for opponents to paint Social Security reform as a risky scheme that will have to be paid for by our children and grandchildren. If the short-term transition costs of personal accounts are paid entirely by borrowing, it is much more difficult to make the case that they are part of a fiscally responsible effort to ensure the system's solvency.

But the political risks of price indexing are daunting. Instead of raising the specter of reckless borrowing, reform opponents will be able to rail against benefit cuts. Conservatives who fear that price indexing will bring disaster can point to precedents.

In 1986, the GOP-controlled Senate passed a Reagan-backed cut in Social Security cost-of-living adjustments that was rejected by the Democratic House of Representatives. In Novembers, Republicans lost eight seats and control of the Senate for the remainder of the Reagan presidency.

Nine years later, a new Republican congressional majority led then House Speaker Newt Gingrich tried to reform Medicare and restrain the program's runaway spending. Although the reform package would have only reduced the rate of increase, it was widely denounced as an irresponsible benefit cut. Republicans lost seats in Congress and the episode helped Bill Clinton revive his flagging political fortunes and easily win a second term the following year. This is no doubt why Gingrich himself has urged the GOP not to pursue price indexing.

Economic conservatives face difficult choices in the coming months. How ambitious a tax reform package can they realistically craft? A consensus must also be reached on the following question: Which is more likely to advance, rather than endanger, Social Security reform -- personal accounts accompanied with large-scale borrowing, or personal accounts plus anything that can plausibly be described as benefit cuts?

Now that the era of big government is back, the stakes are high for both the economic right and the country.

W. James Antle III is an assistant editor of The American Conservative and a senior editor for Enter Stage Right. The views expressed above represent his alone.

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