The payroll tax cut issues that are locking up Congress
possess the power to create both cultural and economic divides at a critical
point in American history. The senate has overwhelmingly passed a version that
would extend the payroll tax cuts by two months. This vote was bi-partisan and
cleared by an 89-10 vote. The Republican led House of Representatives opted to
bypass a vote all together on the issue. Speaker of the House John Boehner, a Republican
and fellow Ohioan is asserting that a two-month extension is not acceptable and
will not call a vote on anything less than a full year extension.
Politically, I believe the strategy is to force a compromise
on the bill from the Senate and to allow the Republican Party an opportunity to
gain some momentum in the coming elections on the jobs issue. Hopefully, job
creation will be one of the main issues addressed during the election
discourse. Additionally, the Senate has already adjourned and returned home for
the Holidays. This may be used by the House to let the tax cuts expire and
blame it on the Senate for taking personal time at the expense of their
constituents. The Democratic Party’s response would most likely lay the blame of
grandstanding at Boehner’s feet and using this to apply political leverage
rather than helping the American people while he had the chance. The cultural
split has the potential to ruin bi-partisan communication just at the time when
our economy will need it the most.
Economically, there is substantial disagreement as to whether
payroll tax cuts or direct government spending will provide the greatest bang
for the buck to taxpayers and the economy as a whole. The primary key is the
term, “multiplier.” This is the how much a policy’s contributions are maximized
or minimized in the general economy. Basically, it’s the bang for the buck
measurement. The payroll tax cut is designed to trim the individual’s
contribution to social security by 2%. This saved 160 million average American
workers about $1,000. The current plan will extend this benefit by another two
months saving the average worker about $83 for 2012.
Averages can be misleading. The percentage paid into social
security is capped a little above gross income of $100k for 2011. The
percentage basis calculation and cap provides less benefit to lower earning
workers because their entire income is subject to social security taxation. The
Urban-Brookings Tax Policy Center’s work shows that the net benefit to more
than 65% of Americans was actually $178. Basic math using their results as the
effect of spending $78 billion (65% of $120 billion) provides an effective
stimulus of roughly $28.5 billion or, a net multiplier of NEGATIVE .66. Simply
stated, the payroll tax cuts provided 1/3 the benefit they cost to produce to
nearly 2/3 of the work force.
The expiring program cost the government, and eventually us,
about $120 billion. Therefore, the net multiplier is about 1.3. Taking $83 per
worker out of the economy doesn’t seem like a very big deal. However, by many
estimates this equals about .8% of GDP, which may be half of 2011’s U.S.
production. Due to the tenuous state of our economy and the expected economic
decline by the European Union in 2012, the expiration of this plan could very
well be enough to throw us into recession in the second quarter when the
proposed tax cuts expire in March.
The debate over the effectiveness of government spending
versus cutting taxes is heating up.
Pessimists assume that the payroll tax cut designed to generate new
hiring is really just churning the economic engine. Companies release
dispensable workers and hire new ones at a cheaper tax rate. This creates some
obvious unintended consequences such as new unemployment claims, benefit issues
and finally, no real economic gains.
Optimists of the program suggest that payroll tax savings
will spur new hiring, which will become permanent hiring as the economy
improves. The basis of this academic research is that private businesses are
much more efficient and responsive to allocating capital and predicting forward
demand than the federal government. In fact, a study cited by Dr. Gregory
Mankiw of Harvard University in his recent article on Crisis Economics suggests
that the net multiple may be as high as 4 to 1.
The government faces some very tough decisions in the months
ahead. The very real concerns over the growth of our own debt must be balanced
against the need to nurse the recovery along. Washington deserves to hear our
voices as we express our own opinions on the amount of debt we’re willing to carry
versus the benefit we’ll receive from its creation. The most important thing is
that we force them to recognize the very real issues at hand and not allow them
to sit by idly as our economy pushes towards our own unsustainable European
outcome.
This blog is published by Andy Waldock. Andy Waldock is a trader, analyst, broker and asset manager. Therefore, Andy Waldock may have positions for himself, his family, or, his clients in any market discussed. The blog is meant for educational purposes and to develop a dialogue among those with an interest in the commodity markets. The commodity markets employ a high degree of leverage and may not be suitable for all investors. There is substantial risk of loss in investing in futures.
