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High Income Tax Cuts Are Here to Stay -- For Now

By Josh Barro
November 12, 2012 12:21 PM EST

Conservatives have taken a lot of well-deserved mockery about their overconfidence in last week’s election. But this week, I am seeing overconfidence from liberals that they are about to win the coming tax fight in Congress. They’re not.

On Dec. 31, all of the Bush tax cuts are set to expire, and, just like two years ago, Republicans want to extend them all while Democrats only want to extend about 80 percent of them, applying them to taxpayers making less than $250,000 a year. Matt Yglesias assures readers that Democrats are going to get their way, in a piece titled “Boehner is Bluffing”:

All Republicans need to do is wait until the Bush tax cuts have already expired. At that point, a vote for a tax cut that Obama will sign -- i.e., the middle-class tax cuts only -- would clearly be a vote to cut taxes rather than raise them. To take the bargaining process seriously at this point you have to believe that come 2013, House Republicans would actually refuse to cut taxes on the grounds that the president’s tax-cut proposal doesn’t cut taxes enough.

This is wrong, wrong, wrong. If the fiscal cliff isn’t resolved before the end of the year, House Republicans will pass a tax cut in January -- a tax cut that extends the Bush tax cuts in their entirety, including the part for people with high incomes. The Senate will pass one that excludes the high income tax cuts. Then both parties will say they have passed a tax cut bill and are just waiting for the other side to agree to it.

Democrats cannot force Republicans’ hand unless they are more willing than Republicans to let all the Bush tax cuts expire. And they won’t be. A full expiration might well cause a new recession, which would be even more politically damaging for the Barack Obama administration than for congressional Republicans. Congress is already about as unpopular as it can become, and Republicans know they are not going to get their legislative agenda enacted in the next two years anyway. But a new recession would greatly interfere with Obama’s second-term plans.

The situation is essentially the same as it was in 2010: Republicans are prepared to incur significant political costs to defend their position on the top tax rate issue, and Democrats cannot accept the economic damage that would come from a major short-term tax increase. As the party more willing to go off the cliff, Republicans will get their way. The fact that Democrats are coming off a strong electoral outcome does not matter.

Liberals shouldn't despair too much, as they will get another bite at this apple. To keep the low top rate, Republicans have to win an extension every time the issue comes up. Democrats only have to win expiration once, and eventually they will.

That's because eventually the economy will improve to a point where a substantial tax increase becomes an economically desirable deficit-reduction measure rather than a damaging damper on demand. When that happens, Democrats will be able to credibly threaten to let all the Bush tax cuts expire. Depending how the Republicans respond, that will get them either a lot more revenue or a tax-reform deal on terms favorable to liberals.

Sooner or later, Democrats are going to win this fight and the top income tax rate will head back toward 40 percent. But it’s not going to be in 2013.

(Josh Barro is lead writer for the Ticker. E-mail him and follow him on Twitter.)

Read more breaking commentary from Josh Barro and other Bloomberg View columnists and editors at the Ticker.

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