Can government really increase spending at no cost?
Don’t we have to pay for government programs? Joe Biden doesn’t think so.
Referring to the massive $4.5 trillion spending bills he is pushing Congress to enact, Biden claimed that “it’s going to cost nothing.”
During the previous administration we got used to the president making statements that were, ahem, factually dubious. But even Donald Trump might have blushed at telling that whopper.
How can the federal government spend an additional $4.5 trillion at zero cost? “It’s going to cost nothing because we’re going to raise the revenue — raise the revenue to pay for the things we’re talking about.”
By “raise the revenue” Biden, of course, means “increase taxes.” Biden’s position doesn’t make sense: Increasing government spending always comes at a cost to the economy.
First consider a basic truth: We live in a world of scarcity. There are only a limited amount of economic resources — workers, factories, computers, and so on — available to produce goods and services.
It’s only possible to produce more of one type of good or service by producing less of another. If the government wants to provide free preschool and expand Amtrak passenger train service, the resources used are no longer available to the private sector.
This point doesn’t involve deep economic reasoning; it’s just a matter of arithmetic. In 2019, before the pandemic, government spending at all levels was about 33% of U.S. gross domestic product. Private spending made up the other 67%.
It’s hard to know what the total spending required by Biden’s proposals will actually be because he’s never spelled out the details; the $4.5 trillion total widely quoted in news reports is probably too low.
The Congressional Budget Office has taken a stab at a more realistic total, and estimates that federal government spending would permanently increase by between 2% and 3% of GDP. In other words, if enacted, Biden’s proposals would reduce the size of the private sector from 67% of GDP to less than 65%.
Maybe that’s a trade-off we should make: Better train service and a system of government-run preschools in exchange for fewer factories or electronic gadgets. But it’s foolish to pretend the larger government sector
Biden wants can come at no cost.
In some sense, Biden probably knows that. My guess is when he says this massive increase in spending will come at no cost, what he really means is that it will come at no cost to the average voter.
He has repeatedly said his plan would only raise taxes on corporations and on households earning more than $400,000 per year. This assertion, though, is clearly untrue.
First, the legislation includes a pilot federal vehicle miles traveled tax requiring every driver to make quarterly payments to the federal Department of Transportation based on the number of miles driven. The legislation also includes a doubling of the federal
excise tax on cigarettes from $1 per pack to $2. Obviously, the bulk of the people paying those two taxes earn less than $400,000.
It’s possible neither of those taxes will survive in the final legislation, but what about the heart of Biden’s plan — increases in the top personal income tax rate and in the corporate income tax? Will only the rich be affected by these tax increases? No.
First, raising tax rates slows economic growth, and the benefits of economic growth are received by people up and down the income distribution. Accordingly, the costs of slower growth are also widely distributed.
Second, the corporate income tax doesn’t affect only the wealthy. Tax
incidence distinguishes who legally pays a tax from the actual burden of the tax. For instance, service station owners collect the tax on gasoline and pay it to the government. But an increase in the gas tax is passed through into higher gas prices, so nearly all the burden of the tax is borne by consumers.
The corporate income tax is paid by corporations, but who bears its burden? Economists’ estimates differ, but roughly half is borne by the firms’ shareholders, as the firm’s after-tax profits decline, and half by the firms’ workers in the form of lower wages. Most people working for corporations make far less than $400,000.
When corporations become less
profitable as a result of a tax increase, stock prices fall. Because more than half of households own stock, often in 401K plans or through claims on public or private pension plans, most people are hurt by a decline in stock prices.
Not surprisingly, the nonpartisan
Tax Policy Center concluded that 58% of households — not just the top 1% or 2% — will bear some of the burden of Biden’s tax increases.
Biden’s claim that the federal government can increase spending at no cost is clearly untrue.