Tax Analysts Blog

The Sweet Illusion of Control

Posted on Nov 6, 2009

Your taxes are about to increase. So are mine, and so are everybody elses. And there's nothing we can do about. It won't happen today or tomorrow, but it will happen soon -- and once the rates increase they will remain high for a very long time.

That's the dire forecast contained in an IMF report released this week, which predicts governments around the world will have no choice but to enact major tax increases and sweeping spending cuts. For Americans, this means the IRS will soon be taking more money out of your pocket AND we can expect fewer cops, worse public schools, and a weaker military. With apologies to Voltaire, it's the worst of all possible worlds. What's more, this double-whammy is regarded as an inevitability. Nothing can stop it from happening, according to the report. Just as rivers find the sea, these future tax hikes can be viewed as nature taking its course.

How did this happen? Simple: unsustainable and irresponsible public finances. Both collectively and individually, we've deluded ourselves into believing that we can enjoy a Lexus lifestyle on a Honda budget. Those seeking a more detailed explanation should consult the writings of economist Marty Sullivan, who has profiled the issues far more eloquently than I can do here. A more visual storytelling can be had by watching the excellent documentary IOUSA which is available on YouTube.

Here's a convenient yardstick for tracking the IMF's prediction. Rather than focus on dollar amounts, let's look at the percentage of tax revenue collected as a percentage of GDP. That filters out variables like inflation and the business cycle. Traditionally, America has collected tax each year equal to about 18% of GDP. (That's generally less, btw, than most of Europe and other similarly situated countries.) What the IMF is really saying is that if we fast forward a couple of years, the tax burden will be much higher than it is today.

How bad will the tax hikes be? The answer depends on how aggressively we are about limiting growth of the national debt. The IMF forecasts that efforts to limit the national debt to 60% of GDP (an admittedly crude benchmark for fiscal sustainability) would involve a combined tax increase/spending cut equal to 8% of GDP. Translated in plain English, that means without spending cuts, the overall tax burden would need to increase from 18% to 26% of GDP. That's an increase of 44%. So if you want a glimpse of the future, imagine paying 44% more in taxes than you do today. The more Congress is able to cut spending (which they're not very good at) the less severe our future tax hike.

What does America get in return for all those extra tax dollars we will soon be paying? Absolutely nothing. Remember the double-whammy; spending will also be cut back. What we will get are crumbling roads and bridges, dilapidated infrastructure, and a busy signal the next time you dial 911. Instead of better public services, your additional taxes will go to servicing the national debt. The cost of servicing the national debt is manageable today thanks to low interest rates, but the IMF specifically warns that those costs are likely to skyrocket in years to come as interest rates rise to support higher bond yields.

Several thoughts come to mind. First, one should not expect the public at large to fully appreciate the problem. We've bought into the comforting myth that we control our own destiny with respect to taxes. To a certain extent we don't -- we're beyond that stage. True, it would be possible for Congress to conjure up some sort of short term tax cut -- proving the IMF wrong -- but that would only mean that our future tax hikes and spending cuts need to be that much more severe. Second, one should not expect our political leaders to be anything less than Machiavellian in their response. No doubt, the impending fiscal crisis will be spun for short-term partisan advantage. You will hear politicians of every ilk offering false hope. "If you vote for me, I'll fix the problem, I won't raise your taxes." Please note: These politicians are lying ... although a fortunate few will manage to retire, resign, or be term-limited when the trouble hits.

Your taxes are headed in only one direction ... and that's up. Deal with it. Voting Republican will neither mitigate or forestall future tax hikes. Bashing President Obama and labor unions will not change a thing. Nor will voting Democrat and blathering on about the excesses of corporate America and Wall Street greed. Control is an illusion; the result here is a fait accompli. The tax burden will not remain at 18% of GDP for much longer.

What's not pre-ordained, however, is HOW we go about raising taxes. That's where the debate lies.

Read Comments (0)

Submit comment

Tax Analysts reserves the right to approve or reject any comments received here. Only comments of a substantive nature will be posted online.

By submitting this form, you accept our privacy policy.

* REQUIRED FIELD

All views expressed on these blogs are those of their individual authors and do not necessarily represent the views of Tax Analysts. Further, Tax Analysts makes no representation concerning the views expressed and does not guarantee the source, originality, accuracy, completeness or reliability of any statement, fact, information, data, finding, interpretation, or opinion presented. Tax Analysts particularly makes no representation concerning anything found on external links connected to this site.