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Tuesday, May 27, 2003

Bush Tax Cuts Will Do a Number on Us

The original story.

By James K. Galbraith

James K. Galbraith is a professor at the Lyndon B. Johnson School of Public Affairs at the University of Texas at Austin and a senior scholar at the Levy Economics Institute, which is based in New

May 23, 2003

It isn't about the economy. It isn't about meeting the needs of the country. It certainly isn't about managing the federal fisc. No. The new tax cut is about cutting taxes on the rich. Texas-style.

Here in Texas, mother state to George W. Bush, we don't pay state income tax. Our public services ("Mississippi with roads") are financed through sales and property taxes. For the rich, these are very minor burdens.

Bush's new law will give a taste of Texas taxation to the whole country. Tax on dividends will go down to nothing - supposedly for only a few years, but that's a joke. Tax on capital gains will drop to 15 percent. The top rate on the income tax comes down to 35 percent. Add to this the in-progress reduction of the estate tax, and the pattern is clear. It will be great to be American - if you are very rich.

But suppose you actually want to live here? The tax bill throws peanuts at the fiscal crisis of the states. Sales taxes will keep going up. Poor people pay those. Property taxes will rise relentlessly, as they are doing down in Texas. Middle-class folk pay the property tax. Funds for schools, health care, transportation and the environment will be cut. In Texas we are cutting almost 10 percent from state university budgets next year, just for starters. There is a tragic threat that vital mental health institutions here in Austin will be closed. Expect to see a lot like this coming soon to a neighborhood near you.

Cutting taxes on corporate dividends might boost the price of stock a bit. But the capital gains cut - a bonanza for old money - is an incentive to sell. And so long as earnings are weak, price/earning ratios remain high. So who knows which way the market will go? Anyway, with a bad investment climate, stock prices aren't going to save us, whatever they do.

For the 2004 election, Bush is really counting on Alan Greenspan, to whom he has already guaranteed reappointment, to keep interest rates low and the housing bubble inflated. (Greenspan knows about blowing bubbles.) Yes, that means the dollar will go to the dogs. But so what? Thanks to the occupation of Iraq, oil prices are under American control. There won't be an inflation shock. The main burden will fall on our neighbor Mexico and on China, who will keep their prices fixed in dollars in order to continue to sell to us.

The train wreck will come after the election. The Fed will turn about, and the collapsed dollar will be declared an inflation threat. So much for today's "deflation" talk, which is mostly nonsense. Interest rates will be raised "in order to defend the dollar," as the Fed will say. Households will hit the debt wall. The housing bubble will pop. Household spending will tank. Many will lose their over-mortgaged homes.

As economic activity drops, budget deficits will mount. And then our Republican leaders will remember all those hymns to "fiscal responsibility," which they have now so carefully forgotten.

To meet the "fiscal crisis," Congress will then have to choose between deep cuts in spending, including the privatization of Social Security and Medicare, and allowing the tax breaks just enacted to expire. Of course, they will say that a recession is not a time to "increase taxes."

Unemployment will creep up slowly before the election, attracting little attention if overall growth stays positive. But after the election joblessness may well get much worse. And if the dollar defense works, the resulting gigantic trade deficit will cause U.S. demand to leak away to imports. That will make it very hard for the economy to grow. States and localities will continue to cut, until even public schools are no longer viable for the middle class.

And then, the Bush Revolution will be complete. Just as Lyndon Johnson's Great Society sought to complete Franklin Roosevelt's New Deal, Bush's plan is to finish up Ronald Reagan's first two years. Reagan wanted to take down Social Security at that time - but the Democrats stopped him. And so Reagan turned to other tasks, including patching up the damage of his own first tax cuts. It appears that Bush in 2005 is determined to complete the project of 1981.

Just as New York was the cradle of the New Deal, so Texas today is the model. As governor, Bush already did here what he now plans for the country. He cut taxes irresponsibly, earned his spurs, and then moved on. Now his Republican successors are out on the battlefield, executing the wounded.

That will be our fate, too, as a nation, if we let this tax bill lead to election victory for Bush and the Republicans next year.

Copyright (c) 2003, Newsday, Inc.

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Sunday, May 25, 2003

Dividend Voodoo

When one of the richest guys in the world- yes, that Warren Buffet- calls the Bush tax cut "vodoo", you have to pay attention...

By Warren Buffett

Tuesday, May 20, 2003; Washington Post, Page A19

The annual Forbes 400 lists prove that- with occasional blips- the rich do indeed get richer. Nonetheless, the Senate voted last week to supply major aid to the rich in their pursuit of even greater wealth.

The Senate decided that the dividends an individual receives should be 50 percent free of tax in 2003, 100 percent tax-free in 2004 through 2006 and then again fully taxable in 2007. The mental flexibility the Senate demonstrated in crafting these zigzags is breathtaking. What it has put in motion, though, is clear: If enacted, these changes would further tilt the tax scales toward the rich.

Let me, as a member of that non-endangered species, give you an example of how the scales are currently balanced. The taxes I pay to the federal government, including the payroll tax that is paid for me by my employer, Berkshire Hathaway, are roughly the same proportion of my income- about 30 percent- as that paid by the receptionist in our office. My case is not atypical- my earnings, like those of many rich people, are a mix of capital gains and ordinary income- nor is it affected by tax shelters (I've never used any). As it works out, I pay a somewhat higher rate for my combination of salary, investment and capital gain income than our receptionist does. But she pays a far higher portion of her income in payroll taxes than I do.

She's not complaining: Both of us know we were lucky to be born in America. But I was luckier in that I came wired at birth with a talent for capital allocation- a valuable ability to have had in this country during the past half-century. Credit America for most of this value, not me. If the receptionist and I had both been born in, say, Bangladesh, the story would have been far different. There, the market value of our respective talents would not have varied greatly.

Now the Senate says that dividends should be tax-free to recipients. Suppose this measure goes through and the directors of Berkshire Hathaway (which does not now pay a dividend) therefore decide to pay $1 billion in dividends next year. Owning 31 percent of Berkshire, I would receive $310 million in additional income, owe not another dime in federal tax, and see my tax rate plunge to 3 percent.

And our receptionist? She'd still be paying about 30 percent, which means she would be contributing about 10 times the proportion of her income that I would to such government pursuits as fighting terrorism, waging wars and supporting the elderly. Let me repeat the point: Her overall federal tax rate would be 10 times what my rate would be.

When I was young, President Kennedy asked Americans to "pay any price, bear any burden" for our country. Against that challenge, the 3 percent overall federal tax rate I would pay- if a Berkshire dividend were to be tax-free- seems a bit light.

Administration officials say that the $310 million suddenly added to my wallet would stimulate the economy because I would invest it and thereby create jobs. But they conveniently forget that if Berkshire kept the money, it would invest that same amount, creating jobs as well.

The Senate's plan invites corporations- indeed, virtually commands them- to contort their behavior in a major way. Were the plan to be enacted, shareholders would logically respond by asking the corporations they own to pay no more dividends in 2003, when they would be partially taxed, but instead to pay the skipped amounts in 2004, when they'd be tax-free. Similarly, in 2006, the last year of the plan, companies should pay double their normal dividend and then avoid dividends altogether in 2007.

Overall, it's hard to conceive of anything sillier than the schedule the Senate has laid out. Indeed, the first President Bush had a name for such activities: "voodoo economics." The manipulation of enactment and sunset dates of tax changes is Enron-style accounting, and a Congress that has recently demanded honest corporate numbers should now look hard at its own practices.

Proponents of cutting tax rates on dividends argue that the move will stimulate the economy. A large amount of stimulus, of course, should already be on the way from the huge and growing deficit the government is now running. I have no strong views on whether more action on this front is warranted. But if it is, don't cut the taxes of people with huge portfolios of stocks held directly. (Small investors owning stock held through 401(k)s are already tax-favored.) Instead, give reductions to those who both need and will spend the money gained. Enact a Social Security tax "holiday" or give a flat-sum rebate to people with low incomes. Putting $1,000 in the pockets of 310,000 families with urgent needs is going to provide far more stimulus to the economy than putting the same $310 million in my pockets.

When you listen to tax-cut rhetoric, remember that giving one class of taxpayer a "break" requires- now or down the line- that an equivalent burden be imposed on other parties. In other words, if I get a break, someone else pays. Government can't deliver a free lunch to the country as a whole. It can, however, determine who pays for lunch. And last week the Senate handed the bill to the wrong party.

Supporters of making dividends tax-free like to paint critics as promoters of class warfare. The fact is, however, that their proposal promotes class welfare. For my class.

The writer is chief executive officer of Berkshire Hathaway Inc., a diversified holding company, and a director of The Washington Post Co., which has an investment in Berkshire Hathaway.

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