The Real Connection Between Taxes and Jobs

The whole world is watching anxiously as the U.S. government goes careening towards the fiscal cliff, where automatic tax hikes and spending cuts will be enacted unless a new agreement can be reached. Both sides are locked in a stalemate over a relatively simple and straightforward question: Will raising taxes on the wealthiest Americans create or suppress the creation of jobs?

Democrats say that those Americans who have benefited most from the economy’s jobless recovery should be asked to pay a little more, to remove the burden on the middle class and those trying to enter the middle class. If the middle class has more money to spend, they will buy more, which will help drive the economy.  The Democrats' focus on job creation is reasonable. The concept is that increased economic activity that will occur if those who need more have more money to spend - those in need are likely to spend most, if not all, of any additional money that they receive.

The Republicans are more focused on those at the top. They claim that if the wealthiest, who they call the job creators, are taxed more, they will have less money to spend on hiring.

Both sides agree that money needs to flow through the economy for employment to pick up. The Republicans are concerned that if the money goes to the government as tax revenue, it would simply disappear down some bureaucratic black hole and never be seen again. Taking this money out of the economy couldn’t possibly help stimulate job growth. To quote Speaker John Boehner, “What some are suggesting is that we take this money from people who would invest in our economy and create jobs and give it to the government. The fact is, you can’t tax the very people that we expect to invest in the economy and create jobs.”

The Democrats, on the other hand, point out that the millionaires and billionaires at the top of the heap will not likely spend all the money they receive from the tax cuts, but will more likely put a good portion of it away in tax-sheltered investments, quite possibly overseas, where it, too, will do nothing to promote domestic job growth.

President Obama said earlier this week, “If we’re serious about reducing our deficit, while still investing in things like education and research that are important to growing our economy – and if we’re serious about protecting middle-class families – then we’re also going to have to ask the wealthiest Americans to pay higher tax rates. That’s one principle I won’t compromise on."

So who is right? This seems like it should a relatively easy question to answer. Of course, there are many variables. One of them is the question of what the government will do with the revenue? There are lots of possibilities and I think most will agree that some choices will have a bigger impact on job creation than others. Of course, the same thing can be said about the wealthiest Americans. What will they do with the money? Take an executive making $2 million per year. If the tax rate goes up from 35 percent to 39 percent, that’s $80,000 more that he will have to pay, (of course, he still gets to keep more than $1.22 million). But the question here, is: If the Bush era tax cuts are extended and he gets to keep it, what will he do with it? Of course, we don’t know the answer. Is it possible that he might use that money to hire another worker, or even several? Of course, it’s possible, but how do we know how likely it is?

If we look at geographical data, the first thing we find out is that the U.S. today has one of the lowest tax rates of all but a few of the 35 biggest economies, yet our employment rate is right in the middle of the pack. No strong support there for the idea that low taxes automatically translates into more jobs.

From a historical perspective, data from the Center for American Progress going back to 1950 actually shows that the lowest levels of job growth occurred during the periods when the tax rates were lowest. Conversely, the highest job growth rates occurred in the period when tax marginal tax rates were in the 75-80 percent range, more than twice what is being proposed for next year. And Tony Phillips points out that there have been a number of times when the Federal government has itself been a job creator. We need only recall the WPA or the TVA.

Bureau of Labor statistics also shows that during the 80s, job growth actually rose in periods immediately following tax increases for the highest earners. In fact, when Ronald Reagan cut taxes in 1981, as he’d promised throughout his campaign, employment fell every month for the next 18 months. It was only after he began raising taxes, in 1982, that employment began to pick up. The pattern repeated itself under Bush Sr. and Clinton. It was GW Bush who lowered taxes dramatically, which played a major role in getting us into the mess we’re in now.

How could this happen? It goes back to what I said before. Follow the money. Much government spending on research and infrastructure creates jobs directly. Safety net programs that put lower income Americans on firmer footing often result in their having more money to spend on essentials. Meanwhile, how much of the additional take home pay that corporate executives would receive from the extended Bush tax cuts would really end up as additional hiring, especially from their personal tax returns?

Yes, small business owners often file the business incomes on their personal returns, but for those rare cases of individuals in that situation who earn over $250k, there are other measures that can be taken to help encourage investment in their businesses.

Former Secretary of Labor, Robert Reich points out in his book, Aftershock: the Next Economy & America’s Future, that a key driver of the financial meltdown was the  diminished purchasing power of the middle class that came about the result of economic policies designed to increase the wealth of the already wealthy, including deregulation of the financial market, reduced capital gains taxes as well as historically low personal income tax rates for the wealthiest Americans.

Finally, when a Congressional Research Service report showed that raising taxes on the wealthy would not stifle economic growth, Republicans ordered the report withdrawn.

So, while the standoff in Congress makes for good political drama, and going over the cliff will allow the Republicans to save face, because after the taxes automatically go up, they will be able to claim that they voted to reduce taxes, it’s pretty clear, just looking at the facts, which path will be best for the vast majority of the American people. The fact that this manufactured issue has been allowed to take us to the brink, just as the debt ceiling debate did last year, is testament to the power that the wealthiest one percent wields, not only economically, put politically as well. The fact that economic power in America has come to be considered functionally equivalent to political power, is perhaps the biggest threat to our democracy that we’ve seen yet.

[Image credit: wally gobetz: Flick Creative Commons]

RP Siegel, PE, is an inventor, consultant and author. He co-wrote the eco-thriller Vapor Trails, the first in a series covering the human side of various sustainability issues including energy, food, and water in an exciting and entertaining format. Now available on Kindle.

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