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Debby Downer: Drowning in Debt

For those of us concerned about the federal debt, recent news has been consistently bad. Optimistic signs are sparse.

Status Quo: Bleak

Debt relative to GDP. The usual way to measure the level of debt is as a percentage of GDP. i.e., relative to the economy’s output. In 2020, it reached an all-time high; it’s a little lower now, about what it was at the end of WWII. This is gross or total debt (including that held in federal trust funds, like the social security trust fund). Debt held by the public, per FRED, is a bit lower than WWII levels.

Implicit debt. The federal government is in the business of making promises. The old saw is that the federal government is largely an insurance company (retirement and health benefits plan might be more accurate) with an army. No competent finance professional would evaluate the fiscal health of an insurance company or pension fund by only looking at its outstanding debt and annual PL, ignoring its legal obligations to pay future claims. The same should be true in evaluating the fiscal health of the federal government.

Put another way, federal policy promises to pay Social Security and Medicare benefits. These commitments cannot realistically be changed quickly as a political and equitable matter. That’s why Trump has pledged not to cut them; it’s politically unpopular. These commitments are implicit debt and need to be considered in evaluating the economic burdens of the debt. The folks who created and maintain the Penn Wharton Budget Model estimated these broader measures of debt and they don’t look good. Complete Measures of U.S. National Debt (1/25/2025). Considering the need to fund Social Security and Medicare benefits at current levels increases the explicit debt (i.e., outstanding treasury securities) by 35%. That reflects the demographic reality of an increasingly aging and dependent population; the relative burden of paying those benefits will increase. Estimating other commitments – VA benefits, military and civil service pensions, etc. which are not included in those estimates – would likely further increase implicit debt.

Cost of paying the debt. A better budget measure of the debt’s economic effects is how much it costs the government to pay the interest. How much does the debt crowd out other spending – public or private? During a low-interest environment (e.g., last decade with interest rates at or below inflation), that cost is manageable. When interest rates rise, as they have recently, the economic burden of debt becomes more significant.

I’ve made this point before, citing CFRB, by pointing out how interest outlays have surpassed spending on the military and Medicaid. This graph compares interest outlays to GDP illustrates just how far this has gone, per FRED through 2023:

The all-time high was reached in 1990. 2023 was close. It would be worse if a lot of the outstanding long-term T-bonds had not been issued during the extremely low-interest rate environment in the aftermath of the Great Recession. It’s only recently that Treasury has had to borrow at more typical rates. The exact opposite was true in the late 1980s, when there was an overhang of long-term debt issued during Paul Volcker’s high interest, inflation-fighting.

As a bit of international context, the US pays a higher percent of its GDP in interest than any other developed nation (see graph of OCED estimates below that I cribbed from Bruce Mehlman’s Substack), even though out debt is lower, relative to GDP, than some nations. For example, Japan has more than twice our level of debt relative to GDP but pays much less in interest because of its low interest rates.

What happens if the budget is put on autopilot (i.e., Congress simply continues existing policy)? It looks worse because we keep spending more than we take in, by a lot. CBO’s latest forecast (table on page 2) shows that interest outlays for 2024 are 3.1% of GDP, higher than shown in the FRED graph above at about the 1990 level. But CBO forecasts that they will rise to 3.9% of GDP in 2034, an all-time high. CBO’s forecast (page 61) assumes that interest rates (10-year T-notes) will drop in the next two years and be stable afterward. If they don’t, the debt burden will be even higher.

Shades of black. Those who want to go even darker can read Gene Steuerle’s post,  Our Fiscal Situation Threatens Democracy, Not Just The Economy(2/25/2025), which points out that federal revenues are now less than mandatory spending (SS, Medicare, Medicaid, interest on the debt, etc.) or this Penn Wharton Budget Model estimate that the point of unsustainability is reached in 20 years under a best-case scenario (e.g., a counterfactual assumption that Trump and Congress don’t make things worse). When the debt and the cost of paying it is growing faster than the economy, you’re on an unsustainable path and that’s where we are.

That doesn’t mean things can’t be turned around; they can with the necessary political will and sustained commitment. For a less dark view, see this Brookings Report by Bill Gale and Alan Auerbach.

Bottom line. If the status quo continues, things will get worse not better. Bleak.

Prospects: Bleaker

What really matters is what Trump and Congress do. Budgets do not operate on autopilot, especially not after a national election that put one party into full control with (arguably) a mandate to make big changes.

Looking at interest outlays relative to GDP, the 1990 high water mark was quickly reversed, thanks to a combination of 1989-93 budget actions and stellar economic growth in the mid to late 1990s. If our leaders thought it was a big problem and had the necessary political will, they could put us back on a more sustainable path (deficit growing more slowly than GDP), if not to an actual balanced budget (probably not necessary). That is what Bush 41, Clinton, and their respective congresses did in 1989 through 1993, one was bipartisan (1991) and the other purely Democratic (1993).

Is there any chance of similar actions being taken now? Or are we doomed to descend to even deeper depths? Judging that requires a fraught exercise, political forecasting. Put more frankly, a fool’s errand. Since I’m a known fool, my informed guess follows. They’re not really predictions of what I think will happen. Just my assessment of two things:

  • A comparison of the current political and budget environment to that in 1989-93, when the federal government turned the ship of budget state away from the debt iceberg; and
  • The budget messages and actions coming out of DC.

Current climate unfavorable

For Congress to take meaningful actions on debt/deficit, three factors are crucial:

  • Recognition that it’s a serious problem
  • Political will to act
  • Favorable budget options that make fixing it politically possible

All three key factors were present in the 1889-1993 period, which is why they succeeded in closing the deficit. I was reminded of that by recently reading two books, Mike Graetz, The Power to Destroy and John Ganz, When the Clock Broke, both of which cover (among many other things) the political and budget history of the late 1980s and early 1990s. My media diet and common sense now tell me each of three factors is less favorable now than back then.

Recognition of the gravity of the problem. It’s obvious that if public officials and the public do not recognize it as a big problem, nothing will be done. Any solution will be painful – cutting spending and/or raising taxes is never pleasant or easy. The budget speak equivalent of the aphorism, “Nature abhors a vacuum” is “Human nature abhors a budget constraint.” We like free stuff, unfunded tax cuts and spending.

In 1989-1993, the gravity of the problem was widely accepted, as recounted in the second section of Graetz’s book. Examples: Reagan admitted the growing deficit was the big failure of his administration. Congress enacted the draconian Gramm-Rudman-Hollings Balanced Budget Act to fix the problem automatically if Congress didn’t. It was a core theme of the 1992 presidential election. Ross Perot made it a central theme of his third-party candidacy (remember his long TV infomercials with charts and graphs) and he got nearly 19% of the vote, more than any other third-party candidate except TR.

By contrast, nothing like that is now the case. Deficits and debt are politically passe. Both candidates in the 2024 presidential election proposed major deficit-increasing policies. Donald Trump has never, in his personal or public life, been concerned about debt. Sure, he claimed he would balance the budget with magical tariffs and by cutting waste and fraud (a fraudulent claim itself). The Republican Party long ago stopped believing the debt is a serious issue, but rather a rhetorical cudgel to bludgeon Democrats and their spending proposals with. Yes, a variety of groups and pundits express concerns, but they are regarded as scolds, and the issue has not grabbed public attention or concern – by a critical mass of the media and other elites. The current fragmented media environment, compared with the 20th century version, makes doing anything much more difficult. It’s simply harder to focus the public’s attention on anything because people get their news from so many diffuse sources. Concerns about deficits now are much more defuse and of a second or third order, insufficient to motivate painful political choices.

Political will to act. The political will to act flows from public recognition of the severity of the problem, a function of widespread concern by voters. That was present in the late 1980s and early 1990s – spurred by the markets (the bond market especially), the media, and elites. Nothing like that exists now.

Reasonable budget options. The third key factor is a budget environment that provides somewhat palatable budget options. Cutting spending and raising taxes is never easy, but there can be wide variations in the degree of difficulty of doing so. The budget balancing path in 1989-1993 was smoother and rosier than now.

  • Then. In 1989-1993, there was more room to make budget cuts without cutting politically sensitive entitlements. Demographics were favorable. The baby boom was entering its prime earning years, and the 1983 social security fix was bulking up the social security trust funds. The end of the Cold War allowed major cuts in defense spending. Discretionary spending and pure welfare (i.e., AFDC) were relatively larger budget categories and both were cut. Both parties were willing to raise taxes and that, along with modest cuts and economic growth, was how the budget was balanced in the late 1990s.
  • Now. There is much less room now to cut spending. The Ukraine War and the increased belligerence of China suggests (unlike the 1990s) we may need to increase military spending, if only to rebuild the nation’s capacity to make conventional weapons (artillery shells, e.g.) and drones (we should not be dependent on China to produce them). Demographic factors are not on our side. We have an aging and increasing dependent population as the baby boomers retire and more of them need care. Fertility rates are lower and dropping. Thanks to political considerations immigration will decline and deportations may rise. That combination makes entitlement spending grow faster and harder to cut, while reducing its revenues (e.g., social security taxes paid by undocumented immigrants who collect no benefits).

In short, the background environment for reducing the deficit and debt is not good. The political and budget reality is much more difficult than in the 1989-1993 period, the last time Congress enacted serious budget balancing legislation.  A best-case scenario, unlikely as that is politically, would be to continue the status quo. More likely politically, as the next section suggests, is we pile on more debt, burrowing deeper into the hole we’re in.

Direct Messages from Politicos

Here’s where I’m on the thinnest ice – making inferences from the actions and public communications by politicians and their ilk. These messages are typically ambiguous, garbled, and too often calculated to mislead. Moreover, they typically have short shelf lives as discussions go on, positions shift, resolutions pass, and compromises are made. So, take this snapshot with a grain of salt.

In any case, the explicit messages from the critical actors – Trump, Republican congressional leaders, and Elon Musk – are uniformly bad, in my view, if your concern is the growing debt. In fact, they suggest things will get worse, not better.

Campaign positions

The Trump campaign – to the extent one relies on campaign rhetoric – suggested something on the order of $5 to $10 trillion in tax cuts not offset by spending cuts or other tax increases. The menu includes full extension of TCJA, including already expiring business tax cuts like R&D expensing and bonus depreciation, exempting tips, overtime pay, social security benefits and so on. All of this is to be offset by tariff revenues and reducing fraud and wasteful spending.

Bottom line based on campaign rhetoric: Some indeterminate, but substantial, increase in the deficit.

Congressional Budget Proposals

The 2025-26 Congress is going to deal with extending or making TCJA permanent and myriad other budget issues through reconciliation. The first step in that process is to pass a budget resolution that sets the target deficit effects by congressional committee for a ten-year period (2025-2034). The heavy lifting, actual legislation with changes in the law that effectuate the budget, will follow later.

The Senate so far is on a two-bill track, the first of which is a slimmed down bill to deal with the border and military spending (NY Times story) for the first ten-year period.  (Each congress can pass two reconciliation bills.) So, we don’t know what they will do about the bigger issues, like tax cuts. We do know what the chair of the Senate Finance Committee thinks and it will definitely grow the deficit by ignoring the $4+ trillion cost of making TCJA permanent as part of the baseline budget. According to quotes in Politico, the senate is now willing to switch to the one-bill track.

The House is on a one bill track and has passed its budget resolution. It didn’t look likely to pass until Trump intervened and convinced just enough no votes to convert to yes. NY Times; Politico. It calls for large, deficit-increasing tax cuts (i.e., extending TCJA etc.), along with big budget cuts. Republicans generally succeed at enacting unfunded tax cuts (e.g., Reagan, GWB twice, and Trump 1). What’s different about this cut is that it is also funded by at least $1.7 trillion in spending cuts. That they have never done, and I remain skeptical that they can actually do so. Of course, that may mean they simply skip meaningful spending and either reduce the size of the tax cut or increase the deficit. Stay tuned.

The text of the resolution is available, here, Penn Wharton Budget Model’s analysis, here, and a Tax Foundation summary, here. The resolution would increase the deficit by $2.8 trillion over ten years. The really bad news (assuming this is the final plan) is that $1.7 trillion dollars of spending cuts are used not to reduce the deficit, but to reduce the amount of deficit-increasing tax cuts.

The table below is my simplified summary of the resolution. Positive numbers are billions of dollars of increases in federal deficit spending over the 10-year period. The amounts are by committee (the resolution directs congressional committees to take budget actions, such as cutting or increasing spending or taxes). I combined committees with smaller amounts. The Ag cuts will likely come largely from SNAP (formerly food stamps) and Energy and Commerce cuts from Medicaid, I’d think.

The unallocated cuts number reflects a provision that will increase or decrease the size of the tax cut, if the spending cuts reported by the committees with directions under the resolution to cut spending do not equal $2 trillion. (The sum of the cuts specified by committee is $1,502 billion. So, there are orphan cuts of $498 billion.) If the cuts are more than $2 trillion, the tax cut increases by the overage. If the cuts are less, the tax cuts decrease by the shortfall. So, that means that the deficit reduction factor is baked in and it’s only the size of the tax cut (not the deficit effects) that is at issue.

I guess that’s intended to incent the spending committees to cut more, allowing Way & Means to cut more taxes, potentially including Trump’s ideas to exempt tips, overtime pay, social security benefits, etc. It also confirms the obvious regarding the GOP’s priorities: tax cuts are more important than deficit reduction. The adjustment factor uses all spending cuts over the $2 trillion marker to fund tax cuts with zilch for deficit reduction.

House Budget Resolution Deficit Effects

Budget Categorybillions
Tax cuts$4,500
Spending increases
Armed Services100
Homeland Security90
Judiciary110
Spending cuts
Agriculture (230)
Energy and Commerce (880)
Education and workforce (330)
Other categories(62)
Unallocated cuts (bigger cuts increase tax cut, lower decrease)(498)
Deficit increase$2,798

Bottom line: based on congressional actions so far, we’ll see a big increase in the deficit because of congressional action, likely at least $2.8 trillion. The Senate will probably push up the House amount, based on this Politico story:

Immediately after the House approved its plan Tuesday, [Senate Majority Leader] Thune called for any Republican tax bill to include a permanent extension of the 2017 Tax Cuts and Jobs Act. That was an implicit criticism of the House budget blueprint, which allows for $4.5 trillion in net tax cuts — which tax writers in both chambers say won’t be enough to allow for TCJA permanency along with Trump’s other tax priorities.

“I know my Senate colleagues are committed to, as is the president, permanence in the tax situation. And we don’t have yet in the House bill so we’re going to work together in a cooperative way,” said Sen. John Barrasso (R-Wyo.), the No. 2 Senate Republican.

Trump’s efforts and success at getting reluctant House members to vote yes on the budget resolution suggest that he will be more engaged this term than last. Bad sign. There is no precedent for a Republican Congress making material budget cuts to finance tax cuts. So, I make no predictions in that regard. A $2.8 trillion increase in the deficit is a best-case scenario and I’d take the over on that.

DOGE to the rescue?

Meanwhile and notwithstanding Congress’s constitutional power of the purse, the Department of Government Efficiency (DOGE) is carrying out extensive executive actions with budget implications. The best way to characterize these actions are intentional chaos – terminating numerous federal employees some for pretextual reasons (e.g., nearly all probationary employees for poor performance but not based on assessing that performance), pausing spending, axing programs, etc. – much of which is of borderline legality or outright illegality. That’s consistent with Silicon Valley’s business MO – Move Fast and Break Things – and a general willingness to not worry a lot about legality (especially Musk and bright line SEC requirements per Matt Levine).

It’s hard to make sense out of chaos (the fog of war and all that), but a few things seem clear:

  • DOGE is proving a determined executive can unilaterally cut spending, notwithstanding the constitution vesting the appropriation power in Congress. Yes, court actions will reverse some of the cuts, but some will be upheld, others won’t be challenged, and some cannot be practically reversed. Only one thing is certain: it will be a boon for lawyers who represent employees in federal employment matters.
  • There will be material reductions in outlays, even if DOGE’s claims of savings must be discounted (Politico, NBC, NYTimes).
  • Since most entitlement spending is off-limits, other than mistaken or fraudulent payments, real progress to pay for tax cuts or reduce the deficit is unlikely. They’re even talking about giving back some of the savings as Doge dividend checks, demonstrating a lack of fiscal seriousness.
  • Adverse effects on revenue collection may exceed spending reductions.

Revenue effects may swamp spending cuts. On the lateral point, DOGE’s administrative actions are hurting IRS’s ability to collect revenues.

  • Some unknown number of IRS probationary employees have been laid off (6,700 per NYTimes story, 6,000 per WSJ, 3,500 per Tax Notes). Most of these employees (more than 5,000 according to the Times story) were working in enforcement and compliance. These newer employees were likely hired under the IRA’s increases in funding, including many attempting to improve the Service’s IT resources. Newer employees are likely less productive as they move up the learning curve, but in the long run this must undercut compliance, collections, and enforcement.
  • An executive order, which applies to IRS, mandates that for each four federal employees who quit or retire, only one may be replaced. If that sticks, it will further hobble the Service.
  • While laying off employees, they’re distracting the IRS from its core mission of administering the tax system and collecting revenues by seeking to use its employees to enforce immigration law and combating fraud in unrelated government programs. Some of the latter may make sense, but it needs to be debated by Congress and funded.
  • To compound matters, an unqualified individual has been nominated to run the agency.

If the goal is to balance the budget, IRS cuts are short-sighted to put it charitably. To illustrate the idiocy of what they’re doing consider these quotes from the Times article:

The Commerce secretary, Howard Lutnick, said on Fox News on Wednesday that Mr. Trump wants to replace the I.R.S. with an “External Revenue Service” that would be funded by tariff revenue.

“His goal is to abolish the Internal Revenue Service and let all the outsiders pay,” Mr. Lutnick said.

…

“I live in D.C.,” Mr. [Kevin] Hassett [Director of Trump’s National Economic Council] said. “Nobody’s going into the buildings, people aren’t commuting because people aren’t doing their jobs.”

“We’re fixing that and the I.R.S. is a small part of that picture.”

It’s like DOGE dispatched people to save a sinking ship that is taking on water. Some of them start bailing, while others go below and throw stuff overboard to reduce the ship’s weight. The guys below unbolt and throw overboard the bilge pumps. The net result is the ship sinks faster.

That very well may be what they’re doing by laying off IRS employees. Dumb. Of course, it is what Trump and many Republican congressional candidates said they would do during the campaign. So, I can’t say I’m surprised.

Here’s how seven former IRS commissioners (appointed by Reagan, Bush1, Clinton, Bush2, Obama, and Trump), put it in a NY Times op-ed:

Every year, the government receives much less in taxes than it is owed. Closing that gap, which stands at roughly $700 billion annually, would almost certainly require maintaining the I.R.S.’s collection capacity. Depleting it is tantamount to a chief executive saying something like: “We sold a lot of goods and services this year, but let’s limit our ability to collect what we’re owed.”

Perhaps only the company’s competitors would approve of such an approach. Yet here we are. Aggressive cuts to our nation’s accounts receivable function will reduce the amount of tax revenue coming in, which will in turn increase our nation’s deficit and add to our $36 trillion in debt.

Bottom line: I expect DOGE to create more chaos and little real deficit reduction. DOGE actions might make the deficit worse.

Ray of Light

It’s important to keep this all in perspective, of course. Unlike some other stuff going on in Washington (Ukraine, cutting USAID funding of food and medical aid, etc.), this is not an immediate and existential crisis. It’s more like a chronic disease with unknown but adverse effect off in the long run. It’s like the hypertensive going off his meds and diet. It won’t result in immediate death and there likely will be time to fix it. But the degree of difficulty in doing so will increase as the public increasingly assumes it’s not a real problem. We keep engraining the public’s expectation that they can buy government services at a substantial discount.

SALT Effects

All of this is bad news for state budgets, including Minnesota’s. The IRS cuts will undermine the state’s ability to collect corporate franchise and individual income taxes, especially over the long run – both because of the DOGE layoffs and the almost certain unwinding of the IRA increased funding by Congress. This will not create an immediate crisis but will gradually erode the tax base by enabling more noncompliance.

If enacted, the Medicaid cuts implicit in the House budget resolution likely would put immense pressure on the state budget. To realize such large savings (almost $900 billion over 10 years), more responsibility for paying benefits almost inevitably will be shifted to states. That’s easier than cutting benefits – it’s now the states’ responsibility, we’re giving them flexibility to be more efficient, etc. A Republican congress is sure to do that in ways that disadvantage blue states more than red states. There are myriad ways to skew the effects to blue states with clever formula writing, time limit phase-ins (partially protecting red states that opted into ACA later), etc.

Prime candidates for large cuts include reducing the ACA’s 90% reimbursement rate back to the otherwise applicable rate (NY Times story) and/or reducing the regular rate below 50% for states with higher incomes (like CA, NY, MN, and other mainly blue states). This KFF report details the state-by-state effects of the first option. It would save $626 billion nationally over ten years (NYT story says $550 billion). Minnesota’s share of that is $1.4 billion. Nothing that dramatic is likely to be enacted but Medicaid cuts in the form of lower state payments almost surely are coming.

Republican legislators understand how vulnerable Minnesota is to Medicaid cuts, which is why some of them warned their colleagues in Congress about it. Many of their voters are enrolled in MA, Minnesota’s Medicaid program. And the rural districts, nearly all of which are heavily Republican, are especially dependent on MA reimbursements for the financial health of their hospitals, nursing homes, and health care providers.

I’m sure that Republican members of Congress fully appreciate this (w/ or w/o letters), as evidenced by this Politico story on the politics of Medicaid cuts. That will make it exceedingly difficult to pass the cuts contemplated in the House budget resolution.

As an aside, the House budget resolution also has a half trillion in unallocated budget cuts – i.e., cuts they were unwilling or unable to specifically identify the general category in which they would be made. Where are they going to find the additional half trillion in unallocated cuts is unclear, if Medicare, Social Security, and the military are

off limits? Medicaid already comprises two-thirds of the allocated cuts, but it’s the only big budget category on the table, it seems to me. All that suggests more of the tax cuts, including increases demanded by Senate, will likely be financed by debt.

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Update on dumb FL tax policy #2

I’m down in Florida with the resulting exposure to bad SALT policy ideas.

Last year I noted a legislative proposal to eliminate the property tax. I assumed that was just a demagogic proposal that (at most) would result in wasted time and money studying the idea. Florida is constitutionally prohibited from imposing an income tax and, thus, has forgone the classic 3-legged stool (income, property, and sales) in favor of a less diversified and more tippy 2-legged version. If your stock-in-trade is splashy tax aversion and you want to axe an entire tax (what could be better?), it’s what you’ve got to do. Even when it makes no practical sense. I assumed it was just a sort of performative attention gathering that many politicians are wont to engage in.

It appears I was wrong (typical in making political forecasts). According to a local NBC news station’s story (I’m not on X, so I have to rely on others for this stuff), a tweet by Governor DeSantis indicates he’s open to and supportive of the idea:

Property taxes are local, not state. So we’d need to do a constitutional amendment (requires 60% of voters to approve) to eliminate them (which I would support) or even to reform/lower them…

We should put the boldest amendment on the ballot that has a chance of getting that… https://t.co/WpOQmjNl0X

— Ron DeSantis (@GovRonDeSantis) February 13, 2025

Yikes

North Dakota has gone through this drill of referenda to repeal the property tax. But North Dakota still has a version of the classic 3-legged stool with a semblance of an income tax (after multiple cuts) and has oil revenues. Their voters, many classic conservative farm types I assume, have been cautious enough to reject the idea. I have less confidence in the electorate down here. In the unlikely event, it would come to pass, I’d think enormous pressure would be put on the corporate tax, along an impetus to impose a plethora of special taxes, some designed to keep tax revenue flowing from us nonresident property owners.

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Time to go tieless

This post consists of my reactions, reflections, and musings (extended navel gazing) on the tied House. Be warned: I was appalled when I saw the word count after merrily typing away. This is not a SALT post.

An odd number would be nice

The 2024 election resulted in a tied House of Representatives, 67 DFL and 67 GOP members. This was the second time that has happened in the history of the state (at least far as I’m aware). On February 5th, the two caucuses finally resolved how they would organize and run the House under the circumstances, adopting what seems to me a reasonable power sharing agreement given the circumstances. That’s about a 3-week delay from the scheduled start of session, punctuated by two election contests and two lawsuits over parliamentary procedures (normally not a matter for the judiciary). In short, it was a messy, complicated distraction from the real purpose of the legislature – enacting laws and a state budget.

I was a House staffer for the first tied House in 1979, including staffing the committee that negotiated the power sharing agreement. In part because of that experience, they brought me back as a very part time consultant for the beginning of 2024-25 process. (My services ended mid-January and candidly added little to help the process resolve itself.) In both instances, the negotiations were contentious and challenging with the most recent one more so. That was likely the case, because of changes in the political culture of the legislature and politics generally. I explore the why in more depth at the end of the post.

Senate had few problems with its tie

The death of Senator Dziedzic in late December resulted in the Senate also being tied. Senators were able to expeditiously negotiate a power sharing agreement before the session started and it worked well (more or less) until a special election broke the tie. Does that mean Senate is controlled by or populated by members who are more reasonable and able to compromise across the aisle? Of course not. It simply reflects the reality that because the Senate has an odd number of members, any ties are short term matters and there is little advantage or long-term leverage to be gained by gumming up the legislative works. When the stakes are unimportant, compromise is easy. The 1971 struggle for Senate control – similar in some ways to the 2025 conflict in the House – also resolved itself more quickly and with fewer trips to the Supreme Court, again probably because an odd number of members meant it was a short term deal. There was no potential for a 2-year stalemate.

By contrast in the House, Curtis Johnson’s withdrawal/resignation gave the GOP a likely temporary majority that they could parlay into permanent control if the House organized. If/when the tie was restored, the DFL would be powerless to reverse decisions the GOP made during its temporary majority. But even absent that, a power sharing agreement covering a short period during the relatively inconsequential early part of the session is much easier to work out than one covering a full biennial session.

Where to go from here?

The process of negotiating a power sharing agreement is gut-wrenching, at least for the members and staff involved, and is at best a distraction from the legislature’s mission. Parliamentary bodies, especially deeply divided partisan ones, do not function well without majority control. So, it would be nice to avoid ties as much as possible. It might not be a big deal if they only come along every 50 years. In that case, they may just be something to live with, especially if there is no easy fix.

Unfortunately, there isn’t an easy fix and I expect that tied houses will become more common, unless our politics reverse their trend (always possible).  I’ll explain why I think both of those propositions are true and suggest a solution that makes sense to me but has a political feasibility rating of less than 5%.

No easy fix

As the title of the post suggests, if the House had an odd number of members, the problem would be solved. That won’t be easy to accomplish.

This is the 94th legislative session. Based on my calculations using data from the Legislative Reference Library’s website, for 42 of those sessions the House had an odd number of members. For example, for the 1918 through 1960 elections, there were 131 House members and for the 1962 through 1970 elections, 135.

That convenient arrangement was enabled by the legislature ignoring the requirements of the Minnesota Constitution in prescribing the number of members and in drawing House district boundaries. The constitution requires legislative districts to be equally apportioned based on population and that no house district “be divided in forming a senate district.”  In the current version of the constitution of those provisions are in article IV, sections 1 and 2. Versions of these provisions have been in the constitution since the very beginning. See Constitution of the State of Minnesota, art. 4 §§ 2 and 24 (August 29, 1857).

[Sidebar: a 1914 Minnesota Supreme Court decision gave the legislature wide discretion in satisfying the equal apportionment requirement, so long as it’s not arbitrary. The court cited a Wisconsin case for the proposition that an apportionment is invalid if “it cannot be possibly justified by the exercise of any judgment or discretion, and that evinces an intention on the part of the Legislature to utterly ignore and disregard the rule of the Constitution in order to promote some other object than a constitutional apportionment * * *.”  Does avoiding the possibility of a tied house satisfy that standard? That would not seem to me to be the case but maybe. Federal intervention makes the issue irrelevant now unlike prior to the 1960s.]

The legislature must have seen the problems with the possibility of ties with an even number of members. It ignored the equal population requirement and put three house districts in one senate district (in Minneapolis) during the 1918-1970 period. As an aside, equal apportionment by population was not something the legislature considered important apparently. It skipped redrawing boundaries after many censuses. As a result, for long periods of time the Minnesota legislature was very malapportioned with rural areas overrepresented and urban areas underrepresented.

This ended when SCOTUS required state legislative districts to be apportioned based on one-person-one-vote after Baker v. Carr and Reynolds v. Sims. That resulted in a federal district court redrawing Minnesota’s legislative district boundaries in 1971-72 when the legislature failed to do so. The district court recognized the problem with an even number of members (or was respecting prior legislatures’ decisions in that regard) and also concluded the legislature was too big. Its solution was a 35-member Senate and 105-member House (i.e., three house districts for each senate district). Not surprisingly, SCOTUS concluded the district court overstepped its authority to prevent dilution of voting rights in doing so. That authority did not allow changing the size of the legislature. Sixty-Seventh Minnesota State Senate v. Beens. On remand, the court’s new plan kept the 67-member Senate and reduced the House by one to 134 members. That configuration has continued, despite many proposals to reduce the size of the legislature and some to convert it to a unicameral body (with an odd number of members).

In short, converting the House to an odd number of members requires either of two things:

  1. Amending the constitution to eliminate the requirement that house districts must be fully contained in senate districts.
  2. Putting three house districts in each senate district by enacting legislation.

Neither fix is easy. Amending the constitution requires approval by the voters and there is some attraction to the simplicity of containing house districts entirely in senate districts. Option #2 requires reducing the size of the senate and/or increasing the size of the House (or something bold like the federal district court ordered in Beens). Not easy.

Other partial fixes have been proposed. For example, former Representative Irv Anderson, a central figure in the 1979 tie, introduced a bill that made the caucus leader of the governor’s party Speaker. This bill passed out of committee but was never taken up by the House. Other states provide for selecting a speaker by chance (e.g., flip of a coin). Either approach is contrary to the constitution’s requirement that the House elect its presiding officer and that it has the exclusive constitutional authority to determine its rules (i.e., not a prior legislature and governor in enacting a statute). So, it’s highly likely they’re unconstitutional.

In short, there is no easy fix to this problem, at least, as far as I can tell.

Ties are more likely now

So far, ties have happened twice in 94 chances or about 2% of the time. Maybe we can just accept the reality they will periodically happen and hope that it doesn’t or that it doesn’t coincide with election contests (a big complicating factor in 2025 and somewhat in 1979)? Unfortunately, that’s likely wishful thinking for two reasons.

Of those 94 general elections, only 52 had a House with an even number of members, thanks to past ignoring of constitutional requirements. The actual percentage of times a tie has occurred is twice as high (i.e., 4% versus 2%). But that’s still a relatively low probability of occurring, if it’s an accurate measure of actual probability. It’s not.

The political complexion of the state has changed, especially since the 2010 election and even more so since the 2016 election (Trump is a polarizing figure). This is a well told national story. Politics are much more polarized on a partisan basis for a variety of reasons. An important one that affects Minnesota legislative margins is that people have sorted themselves geographically into areas populated by people of similar political persuasions. (I recommend reading The Big Sort if you haven’t and are interested in that sort of thing, as I am.) And, I think, people who live in those areas have tended to align their political views with the dominant views of their neighbors – becoming more Republican in rural areas and more DFL in urban/suburban areas. This recent NBER paper suggests that, along with generational change, explains the increased sorting. Whatever the cause, geographic political sorting is reality. One result is that there are fewer swing House seats. Formerly wave elections have become more like ripples. That also means partisan control of the house is typically in play in more elections and the margins of control are smaller. That makes ties more likely.

The table illustrates that point by showing the partisan margin in the House for general elections since 1950 (the last point conveniently available on LRL’s website). From the 1950 through 1970 legislative elections were nonpartisan, but legislators still identified with and caucused by party (conservative for Republicans and liberal for the DFL). I broke the periods in 10 elections (20 years), except the period from 2010 onward (7 elections).

Partisan margin
 ElectionsAverage# <10# <6
1950-682522
1970-882644
1990-20082053
2010-241033
Source: LRL Party Control of House

The average margin has declined by more than 50%. The number of very close margins (i.e., where changing the result in 3 or fewer races would change control) has not changed as much.  Each era has had a few close margins (6 or less). The experience with the 2020, 2022, and 2024 elections, all with very close margines, suggests we could be in for more ties than suggested by the overall 4% probability.

Of course, political winds can quickly change directions. However, I think it is very hard to reverse the effects of sorting and partisan alignment. Witness how long it took for the Republicans to take over political dominance in the South, even though most sanguine observers (e.g., LBJ) were sure that was going to happen after the passage of the civil rights laws. Alliances to political parties tend to be pretty durable.

My judgment may be infected by recency bias, given the last few elections. But I still think it’s reasonable to assume that the probability of a tie is much higher than 20, 30, or 50 years ago.

It’s worth noting that after the 1956 election, the liberals had 2-seat majority with one seat vacant because of an election contest. It was ultimately won by a conservative yielding a 1-vote majority. The liberals also had a 1-vote majority after the 1954 election. It’s certainly possible that absent the odd number of members then, another tie would have resulted in the 1950s.

My fix

As suggested above, the only reasonable fix short of a constitutional amendment is to change the size of the legislature so that there are three house districts in each senate district. (The size of the legislature is specified by law – in statute – so a legislative change is all that is required.) Sleight of hand fixes – selecting the speaker by chance or based on the governor’s political party – are only partial fixes and almost surely unconstitutional. Of course, unconstitutional statutes work fine if everyone assumes they’re constitutional or is willing to accept them despite their unconstitutionality. I think that would be unlikely in this case. And designating a speaker is only a part (yes, a major part) of the issue. So that leaves us with a fix of getting to an odd number of members. The only realistic way of doing that is with three house seats per senate district.

Lori Sturdevant, a retired but still part-time STRIB columnist, wrote a column that proposed increasing the size of the House, while holding the Senate’s number of members constant. So, the legislature would increase from 201 members to 268 members (67 senators and 201 house members).  (Disclosure: I know and respect Lori a lot. While I was working, I talked with her many times about fiscal, tax, and other issues and found her intelligent and thoughtful. This is an instance where reasonable people disagree.)

I do not think increasing the size of the legislature (specifically the House) is a good idea for a variety of reasons. A few of them:

  • At the most mundane level, there are a host of logistical and practical concerns – physical floor and office space for more members and staff, the associated costs, etc.
  • Decision making in larger parliamentary bodies is more difficult and qualitatively different. It cedes more power to leadership and committee chairs, not a positive thing. It would require moving toward the practices like those in the U.S. House, where bills are considered under rules that specify how long debate is and exactly which amendments may be offered, also probably not a good thing.
  • Most importantly in my view, smaller districts will tend to be more homogeneous politically, safe D or R districts. Put another way, fewer of them will be swing districts. That will reenforce partisan polarization and make compromise and bipartisanship harder. There will be more ideologically extreme members and fewer centrists. That is exactly the opposite of the direction I think the legislature should move in.

My fix would be to reduce the Senate to 45 senators (a 22-senator reduction), while holding the House roughly constant at 135 (a return to 1970). That could be done after the next redistricting in 2032, so there is time to plan for it. This idea has the proverbial snowball’s chance of enactment. I know the Senate would never seriously consider reducing its size probably in any case, much less to fix a problem in the other body. So, this is just an academic exercise.

My thinking has two basic components.

Larger legislative districts are generally better (within reasonable limits, of course). My core thought here is that with larger districts, it will be possible to draw more heterogeneous political districts, swing districts that can elect either a DFLer or a Republican. That might (along with other fixes like jungle primaries or ranked choice voting) help reduce polarization, one of the bigger problems that has developed in recent legislative sessions IMO.  In the abstract (e.g., at a constitutional convention where incumbent legislators’ preferences were irrelevant), I would favor something like the Beens court’s proposal: 105 house members and 35 senators. That, of course, picks a fight with both the house and senate, since both would experience a dramatic size reduction.

A principal objection to larger districts has always been that the larger geographic sizes of sparsely populated rural districts would make it too difficult for members to interact with the constituents. The driving distance to meetings and events is too long. Improvements in communications (social media, texting, Zoom and Teams meetings, etc.) now significantly mitigate that concern.

It’s easiest to justify reducing the Senate’s size. By most lights, the Minnesota Senate is large as state senates go. I’m not generally a believer in using state rankings or comparisons as a policy making tool, but they can provide useful frames of reference as a basic test of feasibility or whether a policy lies within a normal range of alternatives. In this case, they suggest that our senate is bigger than it needs to be.

Ballotpedia has a convenient table tool that allows you to rank state legislative bodies on various size dimensions:

  • The Minnesota Senate with 67 members is larger than any other state senate. Only three other state senates have more than 50 members: New York (63), Illinois (59), and Georgia (56).  The Minnesota House is the 39th largest lower legislative body by comparison.
  • A better size comparison is population per senator, since that reflects how many constituents a member must serve and communicate with.  Sparsely populated states, like North Dakota and Wyoming, rank lowest by this metric. Based on the 2020 census, Minnesota senate districts had a population of 85,000, almost half the national average of 168,000 and a rank of 20th. So, it is well above average under a population metric as well.
  • For a 45-member Senate, the average geographic size of each senate district would increase from about 1,200 square miles to 1,770 square miles. That is well within the average range by state. Minnesota now ranks 27th among all states. Its ranking would rise to 14th, just above Wisconsin and below Missouri with a 43-member Senate. I calculated these numbers using the Census Bureau’s measure of state area. Of course, the real focus will be on a handful of very large rural districts in the western areas of the state. Their increases in size will be more than proportional. But the districts will still be much smaller than many legislators experience in places like Alaska, Texas, Nevada, etc. Geographic size is not a real impediment.

Afterthoughts

The rest of the post are some of my random thoughts about why it took so long to come to a power sharing agreement, why the delay wasn’t that big a deal, and why 2025 took so much longer than 1979.

Cheap Shots

Media commentators have pilloried both caucuses over their inability to settle their differences and get organized. See, e.g., here and here for STRIB columns. Given the reality of the circumstances, I feel compelled to mount a modest defense of both sides’ inability to easily resolve this challenging situation. Outsiders, like newspaper opinion writers, typically do not understand the dynamics and stakes involved, in my view.

The following is an unorganized list of some reasons why I think it was so hard for legislative leaders to come to an agreement and why their failure to do so more quickly was not a catastrophic failure or legislative malpractice (i.e., the criticism tends to be uninformed cheap shots).

Stakes were high. Those who have not been members of, worked for, or hung around the legislature understand who controls the House or Senate – even temporarily if it allows entrenching a regime and rules that a restored tie cannot reverse – is very important. Control determines:

  • Procedural rules – these can be key in a myriad of ways.
  • Committee structure, membership, and chairs – both standing and conference committees
  • Agenda setting – what is taken up in committees and on the floor and when. This is politically important since it determines a caucus’s ability to get valuable public attention for your political issues and to make your opponents take bad political votes. All this is true, even though you don’t have a sufficient majority to pass bills.
  • Staffing levels and personnel decisions
  • A myriad of appointments by the speaker
  • Many lesser management and administrative decisions that still may be important to members, staff, and supporters politically

Thus, it is no surprise that when they saw the possibility to use a temporary advantage (a vacant seat) to gain permanent control, the GOP leadership decided to exploit it and to play it out to the maximum extent. (I’ll discuss below why I think the 1979 GOP caucus refrained from doing so as contrasted with the 2025 group.) Similarly, the DFL response to use every available tool (including one not previously used in Minnesota, quorum denial) to prevent that result was similarly natural and to be expected. It’s hard for me to fault either side under the circumstances, much as the fight seemed distasteful or counterproductive. Outsiders typically don’t appreciate the stakes. Thus, the ferocious fighting by both sides probably seemed inexplicable or unreasonable. They weren’t fighting over hot button policy issues that the general public is interested in or accustomed to debates about (e.g., abortion, guns, and taxes), just seeming administrative and process issues. That masks the fact that the stakes were high.

Polarization is the enemy of compromise. By most accounts, the intensity of partisanship has increased significantly in recent years. Politically active folks care a lot. Even more crucially, many tend to think that the other side does not just have different policy views but is likely to do really bad stuff if they attain power. This quasi-demonization of the other side raises the stakes on another dimension. To be clear, in my experience most elected officials do not think this way, but party and issue activists (the parties’ bases) do and in various ways that filters up to legislators. However, the strength of the bad feelings by legislators on both sides regarding the end of the 2024 session took me by surprise. Those feelings were a factor in the negotiations, I suspect.

Many players and stakeholders complicate matters. This is pure speculation on my part and follows on the previous point: I suspect that influence by outside groups made it harder to compromise. I have a very conservative Republican sibling who lives in a distant state and is plugged into multiple national conservative groups of the far-right flavor. She told me that one of those groups was touting their role in helping with the conflict over control of the Minnesota House. (I don’t remember the group’s name or what exactly what it said it was doing. I memory holed it.) The claims may well have been mere puffery, but my suspicion is that they reflect some element of pressure that legislators – perhaps on both sides – felt.

New negotiating terrain. To state the obvious, none of the players have ever gone through a similar negotiation. Legislative negotiations over state budgets and policy changes develop along familiar patterns and rhythms, even as each is unique in some way, and experience with that process makes resolving them easier. Since this was totally new (no current member was around in 1978-79), it took them a while to figure out the dynamics, I’m sure.

Uncertainty was high. Neither side was certain about how much leverage they had. Leverage, in this context, had at least two components – legal and PR. The legal issues were murky – would the courts even be willing to weigh in and if so, how would they resolve these previously untested legal issues? At the same time, a crucial question for a politician/elected official is how the public will react to the likely messaging – “not showing up for work” versus throwing someone who the courts said won out of office or a putative permanent “power grab.” That was probably even less clear, unlike policy issues that have been polled, aired in campaigns, and so on. It was certainly possible (likely) that the vast majority of the public (unlike capitol insiders and core political activists) was not even paying attention. Uncertainty about the relative strength of your and your opponent’s positions makes reaching a deal much more difficult.

The combination of factors (high stakes, uncertainty, inexperience with the situation, etc.) encouraged both sides to dither and delay – to assess the other side’s intentions, get more information, etc. It probably was inevitable that they had to resort to the court for clarification of the legal uncertainty. (The district court’s slowness in issuing a decision in Representative Tabke’s case did not help matters. That district was the GOP’s only reasonable shot at a true majority.) Once the court clarified the meaning of quorum and both sides had enough time to assess the resulting effects, a resolution was reached. I’m guessing that over time they also got more comfortable judging the PR effects, reducing that uncertainty as well.

Loss of early session time is no biggie. Let’s be frank, much early session activity consists of time fillers and nice things to do, rather than critical legislative work. To be sure, early session background briefings by agency and legislative staff serve an important educational function, but they have little effect on the key decision makers, veteran legislators, and actual legislative output. Moreover, the practice has grown, especially early in the session, of conducting pro forma hearings of bills that no one expects to be seriously considered for passage. It’s a way to make members and the underlying interest groups happy or to give members an opportunity to sling political rhetoric around hearing rooms and sometimes on the House floor. (Don’t ask me how many hearings I sat through on repealing the estate tax. There were too many for me to remember.) This is not to say that those hearings and debates are of no value, but the loss in my mind is not great. At least, not enough to get all worked up about, as the columnists have.

In short, my assessment is that the criticisms of the legislators on both sides are overwrought, if not cheap shots. Their behavior is what a knowledgeable person would expect and it did not come at any great cost in terms of the ability to complete a successful legislative session.

Differences from 1978-79

The negotiations in the one other tied House were also contentious and drawn out, but they were tamer and were resolved more quickly, losing only a week of session time or so. It’s a little remembered fact that the 1979 GOP could have done something similar to what the 2025 GOP caucus did. At the start of the 1979 session, one DFL member was absent Dick Kostohryz was in the hospital recovering from a heart attack. With no remote voting in those days, the GOP could have elected a speaker, adopted rules, and controlled the House likely for the full session. Unlike in 2025, they chose not to do so. See the first days of 1979 House Journal (with Kostohryz absent, the IR caucus had a 67-66 majority but passed on electing a speaker and organizing the House). The obvious question is why or what caused the different outcomes. As someone who directly experienced both situations, I have theories or hypotheses about the why.

Less favorable legal issue. Kostohryz’s seat was not vacant. That foreclosed the option of claiming that 67 members constituted a quorum and the countermove used by the 2025 R caucus of asserting they had a quorum and proceeding to organize the House. I don’t remember quorum denial being explicitly discussed in the 1978-79 negotiations, but I do remember Irv Anderson raising the possibility of having Kostohryz vote by phone, which the chief clerk rejected. Knowing Irv Anderson as well as I did, I’m sure he would have used quorum denial if necessary, whether he could have gotten all of his caucus to go along might be more doubtful. In any case, the Republicans agreed not to press their temporary advantage, so it wasn’t an issue. They could only have forced the DFL to use quorum denial until Kostohryz recovered sufficiently to attend sessions (15 days, as it turned out). That would have been much less pressure than in 2025 – originally thought to be three or so weeks and later two months. Obviously, those legal and practical differences could have been decisive.

Different legislative and political culture. My initial reflexive instinct was to attribute the different approaches to changes in the culture of the legislature and politics in general.

The legislative culture of late 1970s was more collegial and somewhat less partisan than now. There were many more swing districts. The IRs flipped 32 seats in the 1978 election. Now that would be unthinkable. The caucuses were more heterogeneous, philosophically and geographically. There were conservative pro-life DFLers and moderate pro-choice IRs.  Both parties had representatives in all areas of the state – center cities, suburbs, regional centers, and rural areas. The election that mattered in most districts was the general election, not the primary like now. That meant that members tended to be more moderate politically. In general, I think the perception was that many voters were less tolerant of pure partisanship.

This state of affairs contributed to a less polarized and more cooperative environment. A case could also be made that the two parties’ aggressiveness and risk-taking willingness have reversed. The 1979 DFLers led by Irv Anderson were more partisan and combative than the IRs. The minority IR caucuses in the 1970s were occasionally criticized as having too much of a lap dog, go-along character. My impression now is that the reverse might be the case now with the GOP being the more combative caucus. Or not. I’m not close enough to judge intelligently.

Cause of the temporary majority. Taking advantage of a member’s heart attack to seize control would have ugly optics and be counter to the then prevailing more genteel political culture (especially for the Rod Searle led IR caucus). That would not be the case for a party that fielded a constitutionally ineligible candidate as in 2025, which implies a degree of culpability. It’s easy to overstate a caucus’s responsibility for decisions that are made by local party groups and voters, I suppose. But the relevant partisans, writ large, are responsible.

Public versus private negotiations. The 1979 power sharing agreement negotiations occurred almost exclusively in public meetings over two months. By contrast, the 2025 negotiations were conducted exclusively in private. I have always thought private legislative negotiations are more efficient and often lead to better outcomes – obviously at the expense of transparency and accountability for the decision-making rationale. Because of concerns about reactions by supporters, opponents, lobbyists, and the public, public negotiations crimp candid conversations that enable finding common ground and better understanding the other parties’ views. If that’s true, it should have helped move the 2025 discussions to a faster conclusion. It didn’t appear to do that (of course, you can’t truly test a counterfactual like that). It’s possible that private negotiations had the opposite effect because there was less public exposure to the parties’ respective positions, denying them the opportunity to gauge and test the political and PR effects of their strategies and positions. I don’t know but certainly a plausible hypothesis.

Overarching goals for the session. The strategic and tactical positions of the 1979 and 2024 House GOP caucuses were quite different. The 1979 group had just ridden a wave election to a tied House and their candidate for governor had won. He had a clear agenda for the session: enacting an income tax cut and instituting indexing, among other policy issues. Their overarching goal was to prevail by enacting those changes. That required the cooperation of DFLers in the House because of the tie and in Senate, which was overwhelmingly DFL. (Thanks to the unintentional historical quirk of not having staggered terms, the Senate was not on the ballot in 1978.) Alienating DFLers on issues of control could prove counterproductive – they might have won the battle (House control) and lost the more important war (enacting the income tax and other changes). As it was, the consensus was that they lost the battle, that is, the power sharing agreement was tilted toward the DFL, but they won the policy war, since the legislature enacted much of Governor Quie’s policy agenda.  

By contrast the 2025 GOP caucus is in a much different position. They flipped only three seats and face a DFL governor and Senate. Realistic goals are to (1) block changes that would further cement the 2023 session changes, such as tax increases to fund them and fixing flaws in the new programs, and (2) making the case for turning out the Dems in the 2026 election (i.e., gaining a true House majority and electing a Republican as governor) using the publicity of hearings and floor debates and by forcing DFLers to take “bad votes” against the GOP’s agenda items. Those goals require little cooperation by the Dems because the tied House gives the GOP a veto over any legislative changes and creating PR and compelling bad votes can be pretty much done unilaterally (House control makes it easier obviously).

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Press coverage of taxes

The New York Times published a story about enforcement of the estate tax, using the outlines of the estate plan of the founder of NVidia as inferred from SEC and other public filings as a case study. Jesse Drucker, How One of the World’s Richest Men Is Avoiding $8 Billion in Taxes NY Times (12/5/2024). The subtitle for the piece: “The chief executive of NVidia, Jensen Huang, has taken advantage of popular loopholes in the federal estate and gift taxes, which have quietly been eviscerated.”

The story outlines methods Huang used to minimize tax. (I’ll skip summarizing the methods because that’s not my point; for those familiar with the estate tax, they involve GRATs and intentionally defective grantor trusts or IDGTs.) The article suggests they have resulted in $8 billion in tax savings or reduced federal tax revenue. The article makes the point that the failure of the IRS to enforce the tax and of Congress to adequately fund the agency and to plug the loopholes pointed out by administrations are responsible for those revenue losses.

Anyone who knows me or has read my blog knows that I support more funding for the IRS and think that the GOP Congress’s starving of the agency has been bad for taxpayer service, compliance and perceptions of tax fairness, as well as reducing revenues probably by a lot. As a SALT matter, it hurts state and local governments’ tax revenues because of their dependence on the IRS in enforcing complicated taxes like the estate and corporate taxes.

Back when I was working, I talked to Drucker, the NYT reporter a couple of times and we exchanged emails when he was reporting on state corporate tax issues for the Wall Street Journal. I found him to be intelligent and a good reporter, one of the few I had contact with who dug into and understood technical tax details.

That is evidenced in the story, which is well written, describing complicated tax minimization strategies, quoting good sources, and so on. It describes a real problem with the estate tax, essentially that sophisticated, very wealthy folks can exploit various gaps with financial arrangements that avoid hundreds of millions in tax that apply to more standard, straightforward transactions and that almost certainly were intended to be taxed when the tax was enacted.

Despite all that, these paragraph in the story really irritated me (enough to write a post about it):

Revenue from the tax has barely changed since 2000, even as the wealth of the richest Americans has roughly quadrupled. If the estate tax had simply kept pace, it would have raised around $120 billion last year. Instead it brought in about a quarter of that.

That missing revenue would be enough to simultaneously double the budget of the Justice Department and triple federal funding for cancer and Alzheimer’s research.

The story of Mr. Huang’s tax avoidance is a case study in how the ultrarich bend the U.S. tax system for their benefit. His strategies were not explicitly authorized by Congress. Instead, they were cooked up by creative lawyers who have exploited a combination of obscure federal regulations, narrow findings by courts and rulings that the Internal Revenue Service issues in individual cases that then served as models for future tax shelters. As such strategies became widespread, they effectively became the law.

Jesse Drucker, How One of the World’s Richest Men Is Avoiding $8 Billion in Taxes NY Times (12/5/2024).

The clear implication is that revenue reduction identified in the first paragraph ($90 billion/year, roughly) is attributable to the story’s narrative, as described in the third paragraph. That the avoidance by the ultrarich (the term used) caused it. That is not true or, at best, is only partially at best. It’s a classic of overstating your case to make a valid point and losing credibility in the process. It’s bad form and unnecessary.

The primary reason that estate tax revenues have declined dramatically since 2000, the baseline in the article, is that Congress explicitly cut the tax in a variety of ways, but mainly by increasing the exemption (unified credit amount) – (1) in the first Bush tax cut in 2001 ($1 million goes to $3.5 million); (2) the Obama compromise with congressional Republicans ($5 million exemption); and (3) TCJA ($11 million, now $13 million after indexing) – and by cutting rates by more than one-quarter (55% top rate in 2000 is now a flat 40%). These were explicit decisions by Congress to cut the tax, mainly under pressure from the GOP and with broad public support.  See Mike Graetz’s books, Death by a Thousand Cuts and The Power to Destroy, for details on how that was done mechanically and as a PR matter.  Sure, the failure to adequately fund the IRS and Congress’s refusal to fix gaps exploited by estate planners for the very affluent threw a few more logs on the fire. But it’s pales by contrast to the enacted cuts.

That legislated changes account for most of the revenue loss is revealed by careful estimates prepared by economists of how much the estate tax would raise if the 2000 law still applied. A recent Brookings paper provides such an estimate, using a database constructed from IRS’s Statistics of Income (SOI) and Federal Reserve’s Survey of Consumer Finance data:

In alternative simulations, we return the estate tax to its 2001 parameters, adjusted for inflation. Remarkably, this version of the estate tax would have raised $145 billion—more than seven times as much revenue in 2021 as the actual estate tax did that year.

William G. Gale, Oliver Hall, and John Sabelhaus, How should we tax the Great Wealth Transfer? (12/12/ 2024).

Note that this amount exceeds $120 million cited in the Times article, which again it implies was largely attributable to exploitation of “loopholes” by the “ultrarich.”  The Brookings paper’s estimate likely overstates the revenue that would be generated, but almost certainly the rate cuts and increases in the exemption amount explain why, in the main, tax revenues lag the growth in wealth transfers. A few points:

  • The Brookings paper does not explicitly detail its methodology in constructing the database. So, one can’t determine if or how they adjusted for the types of arrangements the NYT article details. As the NYT article notes, some of these arrangements have been used since the 1990s. As a result, they are likely partially embedded in the SOI data used, but not fully. Thus, I think the $145 billion number is too high as an estimate of what would have been collected if none of the legislated cuts had been enacted. Avoidance of the type that the Times article describes would reduce the number. But the authors put it out as measure of the revenue reduction caused by legislated changes. I have much more confidence in it than back-of-the-envelope inferences made in the Times article. Note that the Brookings estimate assumes the exemption amount is indexed, which was not provided by the law in effect in 2000 (it was scheduled to rise to $1 million by 2006 and was unindexed thereafter). JCT 1997 Blue Book (p. 88). That causes the estimates to understate the revenue loss.
  • The NYT article cites an estimate by Daniel Hemel, an NYU law professor, that “The richest Americans are able to pass down approximately $200 billion each year without paying estate tax on it, thanks to the use of complex trusts and other avoidance strategies[,]”  Four observations: (1) Given the 40% rate, that is $80 billion in tax (estimated collections for 2024 are $33 billion). (2) His definition of “richest Americans” is not clear and may not be the “ultrarich” the Times uses. (3) Law professors are very good at parsing, explaining and applying legal rules, estimating revenues not so much. (4) Without knowing his methodology, I suspect that it also assumes the universe of transfers can effectively be taxed. That’s unlikely and overstates the estimate. Moreover, valuation issues are a big compliance issue not addressed by the Times article (see note at end) and it’s unclear whether Hemel’s calculations sweep that in too.
  • The NYT article cites an estimate of Huang’s tax savings through his various arrangements as $8 billion. That’s one estate of one guy who will die only once. And he’s one of the richest people in the world. Getting to $80+ billion per year would be pretty tough as implied by the NYT article.
  • Government economists have estimated various efforts to close estate tax loopholes, as proposed by the Obama and Biden administrations and detailed in the Times article. This CRS Report, The Estate and Gift Tax: An Overview (9/16/2024), catalogues many of those estimates. The trust fixes in the not-enacted Build Back Better bill (Biden Administration proposal) raised only $8 billion over a 10-year period, for example. Sure, it was a half fix, at best. But again, getting close to $80 to $90 billion per year? The Times article does not mention the estimates for the provisions it describes. It would undercut its narrative of the loopholes being primarily responsible for the lagging revenues.

My bottom-line guess as to how much could be collected by closing gaps identified in the Times article is closer to $20 to $30 billion/year, in the totally unlikely event Congress were to get serious about comprehensively taxing transfers, while maintaining the current (TJCA) exemption and the basic structure of the estate and gift taxes. That is far short of the $80+ billion the Times article implies.

This irritates me because the Times article never even bothered to mention the major enacted tax cuts as explaining the lagging growth in estate tax revenues. That must have been intentional, not an inadvertent oversight, to hype the narrative. Drucker is too knowledgeable and sophisticated to think otherwise. It undercuts the validity of his legitimate points and contributes to the narrative on the right that mainstream media has a liberal bias.

Yes, this pales compared to the behavior of the propaganda machine that much of the rightwing media (Fox News, Breitbart, Washington Examiner, et al) is, but it’s one more datapoint that my Trumpy friends and relatives cite to me as evidence of the liberal bias of the MSM. Modeling Caeser’s wife is the better strategy.

One final irritation with the article: It cites Gary Cohn’s oft quoted quip that “only morons pay the estate tax.” If so, there are lot of rich morons paying $33 billion per year in tax or a lot of rich people consider the federal (and states in some cases) more deserving than their heirs or charities. Both are highly implausible, so the quip does not make sense even as sarcastic hyperbole.

Note: Elephant in the Room

Valuation is a big issue in enforcing the estate tax. With its focus on Huang, whose net worth is concentrated in publicly traded NVidia stock, that’s not an issue. The stock market provides a consistent, accurate measure of value. Mining SEC filings, as the Times story does, puts the focus on those whose wealth is concentrated in publicly held firms (Bezos, Zuckerberg, Buffet, Gates, et al). The Forbes 400 likely overrepresents individuals whose wealth is concentrated in public companies. See this post for an example.

But many/most affluent types own privately held companies, i.e., firms who do not have the ready valuation of stock trading on stock exchanges. Valuing these companies is difficult and subject to intense disputes between large estates and the IRS. Moreover, longstanding precedent (and financial reality) holds that minority holdings in closely held firms must be discounted (relative to the share that the minority holding is of the firm’s total value) to reflect the power of control of the majority owners on the market value of a minority stake. That opens up tax minimization opportunities for family businesses. They can convert an elderly owner’s control position to a minority holding (e.g., through carefully planned gifts) to qualify for discounts, even though the family continues to control the business. Many of these arrangements have been upheld in court. As a result, these decisions provide estate planners a template for estate tax minimization.

These arrangements are widely used, probably more than the GRATs and IDGTs described in the Times article, and account for a good part of the gap between estimated wealth transfers and the actual estate tax base. Efforts to plug these gaps have been ignored by Congress.

Even if an aggressive Congress were to prohibit these artificial discount (e.g., when the family retains control of the business), valuation disputes are just a fact of life for a transfer tax and will always make a theoretical tax base, as measured by some economic statistics, unattainable.

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Dynamic scoring and TCJA’s extension

I’ve noted previously that dynamic scoring would be an interesting issue in the context of using tariff revenues to offset the budget effects of a TCJA extension. That’s because dynamic scoring would discount the amount of tariff revenues available to use as an offset. Tariffs, certainly broad tariffs as touted by Trump, are typically a drag on economic growth. Dynamic scoring measures the effect of a bill on overall or macroeconomic growth.

Dynamic scoring is not universally used to score tax bills, even major tax bills. So, I thought it would be possible that it wouldn’t be done if congressional Republicans assumed the effects would be negative. (They insisted on dynamic scoring for TCJA’s enactment because they were sure it would lower the deficit increase.) That looks unlikely to be possible now. CBO has published a preliminary estimate (it’s a slide deck) of the macro-economic effects of a plain vanilla extension – i.e., of the provisions expiring in 2025, funded by increasing the deficit.

Three observations about that.

First, it creates the expectation that congressional staff will produce a dynamic score for whatever TCJA extension is produced. Simply skipping doing one doesn’t appear to be an option. That’s consistent with recommendations of a Brookings paper on dynamic scoring. CBO explains its rationale for the publication as a matter of transparency. The law requires it to use current law (i.e., TCJA’s expiration in this instance) as its baseline, while most other (private sector) forecasts assume that TCJA will be extended. (As an aside, assuming a TCJA extension is much closer to the real world than the law.) So, they want to be clear about how that required baseline affects their forecast. But it also makes clear what the underlying growth effects of a dynamic score for an extension would be and, thus, is much harder to ignore.

Second, although the CBO publication does not put a specific revenue number on the effects (the staff of the Joint Committee on Taxation is responsible for doing that on tax effects), it seems clear a deficit-financed extension would reduce growth and, thus, would add to the deficit effects of such an extension under conventional scoring. The effects are small, but negative.

CBO describes the effects as follows:

The scheduled changes to tax law are projected to affect the economy through three main channels:

  • Incentive effects: Higher marginal tax rates on labor income reduce the incentive to work. Lower marginal tax rates on owner-occupied housing increase the incentive to invest, and higher marginal tax rates on business income taxed as individual income reduce that incentive.
  • Crowding in: The reduction in deficits increases the amount of funds available for private investment.
  • Economic activity: Reductions in aggregate demand and the supply of labor reduce private investment. CBO, How the Expiring Individual Income Tax Provisions in the 2017 Tax Act Affect CBO’s Economic Forecast (Slide 9).

Slide 14 (below) compares the effect on GDP of a permanent extension versus expiration. The top graph shows that an extension pushes up growth through 2028 and pulls it down after that. Although it is hard to interpret visually, it seems apparent the pull down (2 extra years) is just slightly larger.

Slide 15 (below) shows the relative effects of the various factors (i.e., the bullets above) on growth. As the graph below shows, the crowding in effect is the predominant effect by a small margin. The cumulative effect of growing deficits is apparent in the last years covered.

Third, the CBO publication provides a roadmap for Republican congressional staffers to map out an extension package that minimizes these effects or scores as growth positive. Limiting the duration of the rate cuts, which generates the early years of positive growth and which will simultaneously limit the deficit effects, is a no-brainer. Adding full bonus depreciation and R&E expensing (both of which are growth positive and are not included in CBO’s extension because they have already started to expire and were not extended by Congress) is another obvious strategy. It shouldn’t be too hard, IF the politics work.

The political difficulty of putting together and passing a TCJA extension, given the close margins the GOP has, may be a lot more difficult than many (including the president-elect) think. This WaPo piece suggests they’re not even sure it should go first.

After I wrote this, CFRB put out a piece, TCJA Extension Might Not Pay for Any of Itself (12/10/24), that highlighted CBO publication and includes data on other private sector analyses that show an extension to be modestly growth positive. I haven’t looked at their details but suspect that they include the investment incentives (bonus depreciation and expensing of R&E) that are excluded from the CBO publication because their expiration dates are already past, and Congress has (so far) chosen not to extend them.

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The politics of tariffs

Warning: This is one of my overly long posts in which I conclude that using a universal tariff as general revenue raiser, at least when promoted by Trump, may work as a political matter. That is so, despite conventional wisdom’s near universal disapproval of them as regressive growth-killers for an advanced economy like the US. That political paradox is explained by their opaqueness, long-running support in a few key quarters, the ease with which they can be demagogued, and other factors.

The post is not about the policy flaws of using tariffs as revenue raisers, just the politics of selling them. It consists of three parts:

  1. A confession of my policy priors – using tariffs as revenue raises is a terrible policy idea
  2. My observations about how tariffs are now being sold to “elites” or opinion makers (very little as far as I can tell) and to average voters (the retail pitch)
  3. My take

They’re back

After a near century of absence, tariffs have reemerged as a central part of the American tax/revenue debate. That’s thanks to the mercantilist mind meld that is Donald Trump’s fiscal brain. Wharton’s economics courses obviously did not take.

During the Gilded Age through Hoover’s presidency (remember Smoot-Hawley), tariffs were a key federal revenue source and an ongoing subject of vigorous political debate. De-emphasizing them was a key political and policy reason for enacting the income tax. See Ajay K. Mehrotra, Making the Modern Fiscal State Law, Politics, and the Rise of Progressive Taxation, 1877 – 1929 (Cambridge University Press 2013) for the full story. For the five decades covered in Mehrotra’s book, they were a hot political topic.

The Great Depression, FDR’s presidency, and emergence of the US as the dominant economic power (i.e., a prime beneficiary of free trade) led to their abandonment, except as a feature of US trade and national security policy. Who even remembers that there was a highly influential American Tariff League that promoted tariffs, published a journal, and lobbied Congress to maintain and increase tariffs? Instead, the mere idea of tariffs as a major general revenue source was consigned to the dustbin of history (or so we thought) until Trump arrived on the political scene.  Indeed, Congress almost totally ceded their imposition to the executive in 1934. They became a matter of trade and foreign policy, rather than tax and revenue policy.

Trump’s belief in their magical powers – foreigners pay them, they don’t affect domestic prices, they will create good jobs, or whatever he really believes – and his use of them as the fiscal answer to how he will pay for his policy agenda (tax cuts, free IVF, etc.) has ended that. Of course, this may be just another edition of Mexico will pay for the wall. Tariffs now are now a key part of the national tax debate. As evidence for that they’re actually starting to appear in political cartoons (see ## 11 and 12), just like in the good old days (1921):

My priors

I’ll be upfront that my priors are stuck in the conventional wisdom I learned in economics courses decades ago – using tariffs as a general revenue source is stupid. Doing so would be disruptive, inefficient, inflationary, regressive, encourage corruption, and spark retaliation, to name just a few drawbacks. The thought that imposing a special sales tax of 10% or 20%, depending upon the day, on a large subset of goods, including intermediate inputs, without creating major disruptions and inflation is implausible. US imports equal about 11% of domestic production. The disruptive and inflationary effects of a substantial tax on them (much higher on those from China) – the scramble to find domestic substitutes, seek legal or illegal exemptions, raise prices, etc. – are obvious.

As a matter of fundamental economics, trade is wealth enhancing. Putting a special tax on it to raise general revenues makes no sense. To the extent one thinks (as many union types appear to) that tariffs create jobs by encouraging domestic production (e.g., for steelworkers), actual results are counterintuitive when analyzed empirically (Trump’s steel tariffs created 1,000 steel jobs while destroying 75,000 other manufacturing jobs). There is a good reason tariffs have not been seriously considered as revenue raisers for almost a century and have been used sparingly as trade policy.

Yes, some portion of their burden may be borne by foreigners, as foreign businesses seek to remain competitive and cut their prices sometimes (not much apparently based on empirical studies). But the domestic burden surely dwarfs that by many multiples. If they raise as much revenue as predicted (count me skeptical), their revenue productivity declines over time. There is no US source for some goods (how many bananas, coffee, diamonds, or cocoa do we produce?) that a universal tariff would apply to. That reality is sure to result in exempting many items as political factors come to bear on the administration, reducing tariff revenues. Yes, legitimate reasons justify using tariffs in targeted and limited ways, such as ensuring we have domestic sources of key military materiel and key essentials or to manage trade (e.g., to deter others from dumping goods below cost or imposing their own tariffs on our exporters). But that’s it, in my view. My views obviously shade the rest of what I say.

The Political Sale

The more interesting phenomenon for me is the political selling of the idea of returning to using tariffs as major fiscal and economic policy instruments. The sales pitch, like most in the political world, occurs at two levels – (1) as an intellectual idea to elites or opinion makers and (2) as a matter of retail politics, to Joe and Jane Voter. Most policies don’t succeed unless a sale is successfully made at both levels. The two pitches can be quite different.

Elite Pitch

Major policy initiatives generally need to have support from elites and opinion makers – e.g., some collection of policy experts, academics, DC think tank employees, trade associations, lobbyists, media commentators, etc. Without that type of support, they have little credibility as viable.

Using tariffs as broad revenue raisers has a large hill to climb in this regard because of a longstanding policy consensus against it. As evidence of how steep that hill is, here are two data points. As a matter of context, the nominee and leader of the (presumed) conservative national party has made raising substantial revenues from tariffs a core plank in his platform. So, one would normally think that conservative experts would be inclined to try and make a case for them. The two data points:

  • The Peterson Institute solicited seven think tanks to develop plans addressing the federal fiscal situation (i.e., the large and growing federal debt). All of them proposed tax increases to offset TCJA’s extension and six to raise revenues beyond that. None of them proposed using tariffs to do so, including AEI, American Action Forum, and the Manhattan Institute, all conservative-oriented organizations.
  • The Heritage Foundation is a very Trump-friendly think tank. (It did not participate in the Peterson Institute exercise.) Many have cast its Project 2025 is a de facto policy blueprint for a Trump administration (Trump himself and the campaign have denied it). Project 2025’s tax policy plans do not advocate using tariffs. For a simplified primer on Project 2025’s tax policy plans see Martin Sullivan, Your Guide to Tax Policy in Project 2025Tax Notes (7/8/2024). Project 2025 does advocate for a broad consumption tax that has elements that make it look a bit like a tariff, but it is very different as Sullivan explains (more below).

But one would still expect some in the right-wing intelligentsia to take up the challenge and explicitly support the idea. (Most of them just dance around and don’t oppose the broad-based tariffs Trump is proposing. For example, watch Kevin Hassert, a chair of Trump’s CEA, avoid the question on Firing Line.) Oren Cass stepped up with a 2,000-word Atlantic article. Cass is the founder of American Compass, a new way conservative organization (populist-friendly?) he founded. He lists himself as its chief economist, but he graduated from Harvard Law School and does not appear to have a graduate degree in economics.

His article, Trump’s Most Misunderstood Policy Proposal, is subtitled “Economists aren’t telling the whole truth about tariffs.” He argues that tariffs can be justified as a sort Pigouvian tax on an externality (foreign production?) that is justified on a cost-benefit basis. Economists (as opposed to lawyers claiming to be economists) in his view make three mistakes in their analyzing and dismissing tariffs:

  1. Undervaluing the benefits of domestic production/manufacturing – its (in his view) better jobs, more innovation, etc.
  2. Are myopic, looking too much at short-term costs (higher consumer prices etc., I assume), as opposed to the long-term benefits of more domestic manufacturing (see point 1)
  3. Often ignore the benefits of the government revenues they generate.

Policy digression: The first two points are basically empirical issues that no legit economic studies support (that I’m aware or that he cites). Yes, cost-benefit analysis is the right evaluative technique. Credible studies all show costs exceed benefits.  Regarding the third point if you’re using tariffs as a general revenue source (that is what Trump is advocating), the appropriate comparison is their ill effects (the classic tax policy principles) compared with other alternative general revenue taxes (income or a broad consumption tax). The use of the revenues can be the same in either case and is not a “benefit” in determining whether tariffs work to yield net domestic economic growth. All the credible studies I’m aware of say they don’t.

His article is economic gibberish to me and doesn’t face up the reality of the universal, across-the-board nature of Trump’s proposal. But I’m no economist either. Real economists have responded. See Kimberly Clausing and Maurice Obstfeld, What populists don’t understand about tariffs (but economists do) (10/1/2024) for a succinct response. Cass’s pitch appears to be falling flat with the National Review, a now Trump friendly outlet. See also this criticism from the Right of an earlier pro-tariff piece by Cass that questions his historical narrative on past American use of tariffs. In short, the pitch to the elite does not seem to be going well among conservative elites and is thin, at best.

I don’t think that will put a dent into their support for Trump. But it may suggest that they think Trump doesn’t really mean what he says or that they think he can be convinced to move on (hello, even bigger deficits). In that vein, it’s worth turning back to Project 2025, which advocates using Paul Ryan’s original TCJA pay-for, the Destination Based Cash Flow Tax. It is a broad-based consumption tax (i.e., not distortive like a tariff), but it has a border-adjustment mechanism (VATs do too, of course), which might make it look like a tariff to Trump. That’s wishful thinking, in my view. Ryan’s version got shot down in the 2017 Congress, but I guess the 2025 Congress (i.e., the GOP conferences in both houses) look nothing like 2017. (Compare Mike Johnson with Paul Ryan.) So, maybe it does have legs. It would not be the unmitigated disaster that a 10% to 20% tariff on almost all imports surely is.

Where’s Grover? The Republican presidential candidate regularly advocating for tax increases is so jarring it might make you wonder what happened to Grover Norquist’s tax pledge. Back during Trump’s presidency when he was imposing tariffs, Norquist forthrightly came out and said they were taxes and advocated against them. He has been largely silent during the campaign about the much bigger and more economically destructive universal tariffs. What gives?

His behavior is entirely consistent with the ATR tax pledge. That is so, because Trump’s tariffs will be more than offset (pay for) other tax cuts (even assuming extending TCJA’s expiring provisions is not a tax cut). The pledge is only violated if you raise taxes more than you cut them (more or less). Grover’s allegiance is to the Republican Party. So, his silence is entirely to be expected.

It demonstrates that among tax pledges many flaws is their inability to protect against the worst of all tax worlds – imposing a bad tax increase to fund bad tax cuts. Here, imposing a universal tariff so you can exempt tips, overtime pay, and social security from income tax and restore deductions for SALT and auto loan interest deduction. Tax pledges are no protection against the political impulse to adopt stupid tax policies, whether increases or cuts. It’s hard to imagine worse economic policy: a destructive tax increase funding tax cuts that make income tax base simultaneously less fair and efficient. An expert might be able to think up something worse, but it would take real work to do so.

Note: In addition to Cass, Robert Lighthizer’s book, No Trade is Free, is another elite pitch supporting tariffs, but not universal tariffs. Lighthizer was Trump’s trade advisor and will likely have a position in a Trump administration. I haven’t read it. Foreign Policy has a review. This piece in the Hill in May by a lobbyist type makes the case for “more aggressive” tariffs – whatever that means – but again not the universal and mega version Trump is now promoting or as a basic, general revenue source. The piece also contains assertions about the 2018-19 Trump tariffs that don’t square with empirical research I’m familiar. Trump’s current proposal would be something like 8X to 9X bigger than his 2018-19 tariffs.

Retail Pitch

As taxes go, tariffs have inherent natural selling points for the average voter (translation: someone who doesn’t think in Ricardian economic terms):

  • Tariffs are opaque and indirect. They’re remitted by importers. Their incidence is indirect. Who pays depends on market price responses, unlike an income tax or a retail sales tax. In this sense, they bear some similarities to corporate taxes, one of the easier political sells as taxes go because of their invisibility
  • The explicit payers (i.e., those with the legal obligation to remit) can be foreigners (whoever the importer is). And foreign firms may absorb some of the burden if their marginal costs allow them to do so and still make a profit, if market forces impel them to reduce prices. There are obviously big limits to that effect – e.g., the extent to which domestic sources or other ready substitutes not subject to the tariffs are available.
  • The two previous points play into Trump’s rhetorical troupe that they are paid by foreigners, as contrary to basic economics as that may be. It is easy to see a ordinary voter falling for that pitch, especially if they’re not paying much attention or they are inclined to do so based on their partisan or ideological priors.
  • Because they were considered a fringe policy, the political debate has ignored tariffs. Unlike the relentless (largely Republican) attacks on taxes per se, they have not been vilified or their ill effects explained ad nauseum. That makes it easier to fall for the false narrative of who pays. Would average folks think that Exxon Mobil (its shareholders) actually bears the burden of the gas tax or Philip Morris of the cigarette tax? No, because it’s not only obvious they don’t but because the merits of those taxes have been debated endlessly.
  • Their funky name (“the most beautiful word in the dictionary” according to Trump), which doesn’t sound like a tax, helps in this regard. The average person likely does not think of them as “taxes.” Can you imagine Trump calling himself a “Tax Man” if they did?  An import tax would be a tougher sell. 
  • Moreover, the candidate of the anti-tax party is aggressively promoting them, not reluctantly turning to them as necessary to pay for basic government but happily singing their praises. I suspect this may inoculate them (in many minds) from concerns that they will hit the average voters’ pocketbook.
  • The old mercantilist pitch: the fallacy that domestic manufacturing is an intrinsic good, worth pursuing on an undifferentiated basis. Despite its economic illiteracy, this notion has intuitive appeal and Trump plays on it big time. (Harris FWIW appears to have bought into it.) Its appeal is demonstrated by the staying power of mercantilist policies across the centuries. Not until the 19th century was it shown that its zero-sum logic to be a fallacy. Trump’s seemingly universal view of the world as a matter of zero-sum exchanges probably explains a lot about his affinity for tariffs.
  • There is longstanding traditional support for tariffs in some quarters – particularly by industrial unions – who perceive them as providing protection against cheap foreign labor undercutting their collective bargaining power and wages. (Translation: they can capture as wages some of the higher prices that domestic producers can charge because of the tariffs.) For example, this showed up as support on the Iron Range for Trump’s 2018 steel tariffs (Bloomberg) and from Amy Klobuchar in a 2022 press release in favor of steel tariffs. Put simply, tariffs typically are viewed as pro-labor. That probably goes a long way to explain why Biden, the self-proclaimed most pro-union president, left most of the Trump tariffs in place after criticizing them during the 2020 campaign. Similarly, domestic producers with no or few foreign inputs will favor them as enhancing their profits. The Coalition for a Prosperous America is a case in point.
  • Because conventional wisdom has rejected tariffs, supporting them appears anti-establishment, which plays into a Trump anti-elite theme. Free trade is an abstract concept, associated with egghead economists and big business type, the quintessential establishment. In combination with reflexive support by much of the old labor movement, this plays into Trump’s campaign theme: I will fight elites for you.
  • There is a perception that foreign trade, particularly with China and other SE Asia countries, has eliminated high-paying good quality manufacturing jobs and that tariffs can reverse that. These jobs were often held by folks who are major component of Trump’s realignment of a formerly Dem constituency to the GOP – i.e., the white, blue-collar workers – while many higher educated and white-collar workers who are more likely to see tariffs for what they are now vote Democratic. (Policy aside: There is no obvious reason why manufacturing jobs are better or higher paying than service jobs. That former reality, I suspect, was attributable to the strength of unions and firm size or that they were typically filled by males. Service jobs –many examples in finance, medical, legal, and tech come to mind – can be as high or higher quality and paying. Manufacturing jobs were considered “better” or higher paying only because in the past they were. Pure nostalgia, not economic fundamentals.)

Trump relies on all these pitches and more. Someone has created a searchable archive of Trump’s and his campaign’s postings on Truth Social, his social media website. It is replete with examples. Here’s a recent one (8/17/2024):

Here is the truth: Kamala wants to put massive taxes on American jobs and American industries—I want to CUT taxes on Americans, while putting tariffs on China and other foreign countries to bring our jobs back home to Pennsylvania. A tariff is a tax on a foreign country… there’s no tax if they build in PA – it’s very simple.

According to a recent WaPo article:

Trump has repeatedly insisted that tariffs represent an unmitigated positive for the U.S. economy, recently calling them “the greatest thing ever invented.”

It’s working. Given that, it should be no surprise that polling shows the pitch appears to be succeeding. For example, consider this Reuters/Ipsos poll from September:

Some 56% of registered voters in the Sept. 11-12 poll said they were more likely to support a candidate backing a new 10% tariff, or tax, on all imports, as well as a 60% tariff on imports from China. By comparison, 41% said they were less likely to support a candidate attached to that proposal.

Like many issues today, partisan-affiliation and polarization are big determinants. Tariffs are closely associated with Trump and the polls cross tabs show two-thirds of Democrats opposing a candidate supporting the tariffs. Trump’s affinity for tariffs affected partisan views of them, even before the current campaign.

Residual labor support for tariffs, I suspect, explains the still substantial Dem support for Trump’s tariffs:

The poll found one in three Democrats said they were more likely to vote for a candidate backing higher tariffs and steep levies on Chinese goods, compared with two-thirds who said they were less likely to do so. Independent voters mirrored the wider electorate.

My take

The bottom line is that tariffs are not unpopular. A segment of the population (largely in Trump’s base) even perceives them positively. Most don’t think of them as taxes. I don’t think Trump has suffered much, if any, political downside from promoting them and using them as a fiscal foil for his fanciful tax cut agenda. Trump has serious competence issues when it comes to governance, truth-telling, and other essentials for a good leader. But he has an uncanny instinct for political pitches and marketing; this is a case in point. The economic nonsense he continually spouts on tariffs burnishes his anti-establishment credentials (ironic obviously for someone with legacy wealth and his policy position generally). More importantly, it has allowed him to successfully deflect questions about his tax cut agenda – i.e., how the country can afford it fiscally? That is so because the general media is ill-positioned and unwilling to call BS on his claims and because tariffs have been out of the political debate for several generations, so their negative economic effects are simply not in the public’s consciousness.

As an aside, I find this most remarkable given the total lack of a credible pitch to elites. That is a testament to polarization and the US’s pure team-based political world. It’s remarkable that the long-running free trade orthodoxy of the Republican Party could be reversed so quickly and easily by as craven a pitchman as Trump.

Growing opposition

The anti-Trump world (translation in this context: the establishment) has belatedly come, I think, to recognizing that reality.  Until very recently, it has been remarkably restrained in responding to his wild proposals beyond a normal amount of academic and MSM articles. As the campaign has ramped up, Trump’s proposed tax cuts mounted, and his crescendo of assertions that all will be magically paid for with tariffs, it’s obvious that concern is finally growing, given the recent spate of articles, op-eds, conferences, podcasts, news articles, etc. on tariffs. With Trump having a 50-50 chance (at a minimum) of winning that concern is well placed.

A sampling (these are all pitches to elites; the Harris campaign has deployed Mark Cuban to make a retail pitch at campaign events, as well as adding opposition to Harris’s stump speech):

Will it matter? I don’t think so. It’s too little and too late. The message requires digesting, understanding, and accepting modestly complicated economic analysis. That’s asking a lot of voters in such a short period of time. Conservative elites (e.g., the Wall Street Journal editorial page, business organizations, business leaders, etc.) would need to call him out in a full-throated manner to lend it the necessary credibility. They haven’t and won’t because they (most of them, anyway) want him to win and either assume it’s mainly campaign rhetoric, that they will fight the battle with his administration after he takes office, and/or saner minds will prevail to moderate substantially his extreme proposal (high universal tariffs).  Even if they did so, it’s unclear it would matter – a necessary condition, but unclear if it would be sufficient.

Debt coda

Despite favoring Trump’s fiscal approach, the Reuters/Ipsos poll cited above found Harris leading him by 5 percentage points! More paradoxically to me, it also found respondents thought Trump was more likely to reduce the national debt than Harris. That is hard to square with reality.

CRFB‘s analysis of his proposals shows they increase the debt by at least 2X more than Harris’s do. That analysis does not include some of Trump’s latest proffers of more tax breaks (e.g., exempting policy and military from income tax!). If Trump is elected, a GOP-controlled congress is highly likely, making it easier for him to enact much of his extensive tax cut agenda. By contrast, if Harris is elected, at least one house of congress (Senate) will almost certainly be controlled by the GOP and will block much/most of her plans for more spending and tax cuts. Some version of TCJA’s extension is likely to pass in either scenario, of course, growing the deficit. So, I find it hard to conclude he would be better for those concerned about the deficit/debt.

I think there is a sticky residual belief that Republicans, as the ostensive conservative party, are more hawkish on the deficit. That perception is not back up by their governance practices in the last decade. GWH converted a surplus to a big deficit; Trump obviously blew up the deficit during an economic expansion; and Boehner rejecting a grand bargain with Obama because of the Hastert Rule prevented him from getting it through his conference.

But if one thing is clear about the current campaign, the debt and deficit are a minor issue at best.

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Back to the Future

Disclosure: I subscribe to CFRB’s emails, which I typically scan and sometimes read. Last week, they emailed a link to a WaPO op-ed by Mitch Daniels, GWB’s OMB director and fiscal conservative type (supposedly). The ugly combination of Chicken Little rhetoric and declining to own up to his and his party’s ongoing role in the crisis in the piece triggered me. I usually take a breath and move on or type a few paragraphs and delete them the next day after recognizing that political commentary is not my comparative advantage. In this case, I decided to post it. Caveat emptor.

It’s become increasingly clear with the return of real interest costs for federal borrowing (i.e., Treasury no longer is paying interest at or below the inflation rate), that the country is on an unsustainable deficit and debt path. The federal government now spends more paying interest than for the military budget, for Medicare or for Medicaid. The power of compound interest and all that. Projections show the debt growing faster than the economy.

I think this is mainly a tax problem, fueled by the acute tax aversion that has infected one of our two major parties. The one domestic policy Republicans agree on is opposition to any tax increase and support for deficit financed tax cuts in good times (e.g., 2001 and 2017) and bad (e.g., 2003). Their spending increases of various flavors (e.g., Iraq War and Medicare Part D) did not help matters, as did insisting on cutting tax increases that paid for Democratic spending (e.g., goading the Dems into supporting repeal of the medical device and Cadillac insurance taxes that were to help to fund the ACA). The Trump campaign is a case of this on steroids (see below).

The debt situation has led to handwringing by normie Republicans who claim to be fiscal conservatives, like Mitch Daniels. In his op-ed, Daniels hypothesizes the nation is on the verge of a fiscal disaster. A situation sufficiently dire, in his mind, to justify characterizations like (as fodder for an Aspen Ideas or similar confab):

“Preparing for Armageddon”; “Climbing Out of the Ashes”; “The Day the Dollar Died.”

Mitch Daniels, ‘The Day the Dollar Died’ is coming. What’s the plan?’ WaPo, 9/19/2024

Never once does Daniels admit to his or his party’s complicity in creating this crisis. He was George W. Bush’s director of OMB during the formulation of the 2001 and 2003 tax cuts. Moreover, his op-ed only once mentions, in passing, the possibility of increasing taxes. Assets sales, renegotiating debt obligations (translation: partial default), invoking the Insurrection Act to quell a rebellion (presumably from cutting social welfare benefits resulting from depleted trust funds) get more ink, in addition to partisan shots. Really w/o even discussing reversing some of the tax cuts? Tax collections are now between 3 and 4 percentage points of GDP lower than when GWB (and Daniels as OMB director) took office.

I get that this is just rhetorical attention grabbing, and I would shrug it off it were coming from Ted Cruz, Rand Paul, or similar unserious folks. It’s hard to take from Mitch Daniels, who isn’t going to be running for anything and has to know better.

Back to 1997?

I think that Daniels is likely right that we do have an impending national debt crisis. But it’s a crisis of (a lack of) political will, radical tax aversion, polarization, and abandonment of real fiscal conservatism by the likes of Daniels. Fidelity to your party and its implacable opposition to tax increases and support for tax cuts is more important than recognizing reality.

Over the last quarter century, the country (Republicans really) ran a bold economic and political experiment. That is, they tested whether dramatically cutting income, corporate, and estate taxes would, in some combination: (1) induce growth that would offset the cuts (the economic experiment) or (2) lead to restraining or cutting spending, as the lesser evil of rescinding the tax cuts (the political experiment). Daniels’ op-ed reveals that experiment was an abject failure on both counts. If growth was stimulated, it was modest at best (estimates show it was less than the tax cuts). Spending was not restrained. Instead, we have a debt crisis.

So, where does that leave us? Selling federal assets, giving bondholders a haircut, cutting social safety net programs, etc. per Daniels? As an alternative frame of reference, two academic economists suggest rolling back the federal tax system to 1997. Recall the economy was booming in the late 1990s, so the tax system was not stifling growth. Things were pretty good.

Doing so would not eliminate the federal deficit. But the supposed crisis would largely evaporate with more manageable deficits. You can read the full article here: Owen Zidar and Eric Zwick, A modest tax reform proposal to roll back federal tax policy to 1997 or a short summary by Noah Smith, an economist blogger who I often read, here (the second of his five interesting things) or Neil Weinberg, The Case for a Retro Tax Code (Chicago Booth Review).

Zidar and Zwick claim that their proposal would increase progressivity and raise revenues by $5 trillion over the 10-year budget window, based on analysis done using the Penn Wharton Budget Model. Their proposal deviates from a mechanical return to 1997 law and the revenues they claim are misleadingly high as I briefly explain below. My intuition is that an actual return to 1997 law would raise more revenue.

Bottom line

In my opinion, a true fiscal conservative would not be raising the prospects of a federal fire sale of assets, haircutting bondholders, reducing social security or Medicare that modest income seniors are counting when returning taxes to ordinary levels would mostly fix the problem. The Daniels op-ed reveals just how radical (not conservative) Republican orthodoxy has become, the antithesis of actual prudential and cautious conservatism. In my view, a democracy depends upon its conservative party to play that role, to be the voice of reason and fiscal probity. We don’t have it now.

Until normie Republicans like Daniels, Rob Portman, Paul Ryan, and others of similar ilk can forthrightly say (what I’m sure they know) that major tax increases are necessary and enacting them is not a big deal economically, we have a crisis of political leadership. If that means advocating for a national consumption tax to replace two decades of income tax cuts, fine. (See this NYT article implying that is where Trump’s tax proposals may be leading. I’m not buying it. He’s selling pure populist snake oil.) But let’s be forthright about the ineffectiveness of the “Starve the Beast” strategy of limiting government. The size of government stayed the same or grew modestly, funded by debt.

Would it actually make a difference if the likes of Daniels, Ryan, and Portman now leveled with the public about the need for major tax increases (well, rollbacks of tax cuts)? Of course not. Decades of rhetoric and mainstream media coverage have lulled the public into assuming the current imbalance between taxes and spending is normal and fine. Reversing it will take at least a generation or a cataclysm. But speaking actual truth (as opposed to Chicken Little columns like Daniels’) would at least be a start. (What’s perplexing to me is he is well beyond his political sell buy date. And guys like him have no future in a Trump GOP. So, his temerity cannot be rationalized by preservation of his political career. It must be reflexive partisanship triumphing over conservative principles and/or concern for the fiscal health of the Republic. Same for Portman and Ryan. Very disheartening.)

The political problem is likely getting worse. If the last 25 years have inured the populace to government benefits funded by debt, the two presidential campaigns, but especially Trump’s, is willfully leading them to think their taxes can be cut even more without affecting the government they’re accustomed to receiving.

To list Trump’s tax proposals reveals the fiscal incongruity and tax policy idiocy (numbers from either CFRB or Tax Foundation):

  • Extending TCJA – about $4.6 T
  • Restoring the SALT deduction (a major TCJA “payfor”) – $1.2 T
  • Exempting social security benefits – $1.6 T
  • Exempting tips – $250 B
  • Exempting overtime pay – $1.4 T
  • Paying for it all with tariffs and disallowing parts of the IRA – economic ill effects will exceed the revenue

He’s like a car salesman who’s trying to close a sale: “Okay, in addition to undercoating, floormats, and fuzzy dice, I’ll throw in a set of snow tires and a 100,000-mile warranty.” Sheesh.

This Brookings paper by UC Berkley economists, Alan J. Auerbach and Danny Yagan, Robust Fiscal Stabilization (9/25/2024), provides a long and nerdy and neutral description (not pointing the finger, as I do, at tax aversion) of how we got here and the economic risks, complete with all the usual equations. My take is that it requires a bipartisan commitment and willingness to compromise (including on taxes) that has departed. Let’s hope not permanently.

Quibbles

I found the Zidar and Zwick proposal did not meet its billing in two respects.

Projected revenues

Their claimed revenues of $5 trillion are misleadingly high because of the 10-year budget window they picked, 2021-30. Obviously, we’re now at the end of 2024 (9/30 is federal year-end), so four of those years are already history. That is misleading because a large portion of their claimed revenues come from repealing features of TCJA that expire, i.e., QBI and its individual rate cuts. Those revenues comprise $1.6 trillion of the $5 trillion total and are in the CBO budget baseline going forward. Thus, most of that money is out the door and the rest is one-time. Using their projected 2030 revenue increase as a benchmark, the 10-year total increase is about $2.7 trillion or half what they claim.

To put the best construction on this, I assume their benchmark is a full TCJA extension. But that makes the deficit bogey higher than the official CBO baseline.

New tax provisions

Their claim that this is really just rolling the tax code back to 1997 is a canard, because they add major new features. These are all progressivity enhancing and are mainly good changes, but they were not in effect in 1997 (or ever in most cases):

  • Eliminating stepped-up basis – not only would gains on death of the owner be taxed, but gifts of appreciated property would trigger taxation of gains, and charitable contributions of untaxed appreciation would be disallowed (all good policy but not in effect in 1997)
  • The ability of S corporation owners to avoid FICA (mainly the uncapped Medicare tax) would be eliminated, treating them like partnerships (They refer to this as the Gingrich-Edwards loophole based on two of the more high-profile politicians that used it. Again, a good policy change, but not something in effect in 1997.)
  • Large PTEs would be taxed as C corporations

On the other hand (and contrary to Noah Smith’s summary), they do not rollback TCJA’s corporate rate cut, a permanent TCJA feature. Doing that, even partially, could raise substantial revenues and is more politically palatable than their proposal to roll the estate tax rates and exemption back to 55% and $1 million.

Another big revenue loser that no one talks about are the myriad of expansions in the retirement rules since 1997. Those were enacted in bits and pieces, parts of both big tax cuts and bipartisan stand-alone bills with no-cost funny accounting. In combination the massive increases in the amounts that can be put into retirement accounts result in a lot of lost revenue and shift the income tax to something closer to a hybrid income-consumption tax. The current tax expenditure estimates (2027) are $660 billion up from $84 billion in 1997. That is about a 7X increase. Inflation between 1997 and 2024 was about 2X. This reflects the story told by Professor Doran in The Great American Retirement Fraud. That horse is out of the barn, but cutting back contributions to the 1997 levels (indexed for inflation obviously) and capping the maximum amount that can be held in accounts at a reasonable amount (say $5 million) would raise billions in revenue without hurting anyone’s retirement security.

In short, there are reasonable ways to get Zidar and Zwick’s permanent revenues back up to $5 trillion and some of them (i.e., corporate rate increases) are politically feasible. But without major bipartisan buy-in, it will be impossible and if the likes of Mitch Daniels can’t forthrightly advocate for it (in exchange for spending growth slowdown), we’re toast. Support for major tax increases from normie Republican fiscal conservatives is just a first necessary baby step. I guess it’s too much to expect or hope for.

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Dumb tax policy, FL 2nd edition

A bill is moving in the Florida House of Representatives to study phasing out the property tax (news story). This is a silly idea, a waste of time for the poor legislative staffers (I feel their pain) who may be required to do the study. That there is no apparent Senate companion bill is its only saving grace. But those experienced in the legislative process know that is no guarantee it won’t be enacted. Studies are often throw-ins in legislative negotiations and are enacted without a great deal of thought.

Back in 2012 Myron Frans, then commissioner of revenue, went around the state with a three-legged stool conducting tax reform listening sessions. The stool was a prop to represent state and local governments’ reliance on three big taxes – income, sales, and property – as the basic revenue sources. The idea, of course, is that three legs provide balance and diversity and the revenue needed for state and local services. Making do with only two legs is a challenge (especially when you already have three – talk to Scott Jensen), relying on only one is well-nigh impossible, even for the Free State of Florida. That is especially so if you’re eliminating the most basic and historic of the three, the property tax, which is also provides the highest percentage of your tax revenues.

An aside: Frans’ prop had one leg longer than the other as I recall it, implying equalizing them would be more balanced, a less tippy stool. The 2013 legislature instead lengthened the already longer income tax leg by enacting the fourth-tier top rate.

A handful of states rely on only two legs, typically sales and property (9) or income and property (3). Two states (or maybe 1.5 depending upon how you count NH) rely on only one leg – Alaska has neither a state income nor sales tax (several of its cities have robust sales taxes, though) and New Hampshire is similar with no sales tax and an income tax on just interest and dividends. Alaska lives on its oil revenues. New Hampshire has bare bones government and highish excise and corporate taxes that nick out-of-staters. No state (okay its local governments) operates without a property tax.

Replacing or getting along without property revenues will be a major challenge, even for low-tax Florida. Our Florida and Minnesota homes have very similar values (according to the assessors anyway), but our Florida tax is 20% higher (our homeowners and auto insurance are twice what we pay in Minnesota for lower coverage and our dues and association fees pay for security and other services that Minnesota cities provide, FWIW). Replacing that revenue will be a degree of difficulty of 11 on a scale of 10, in my opinion. In short, impossible and a waste of time thinking about if you’re a serious person.

Moreover, it’s dumb because the property tax is an excellent (okay good) tax to finance many of the property related services that municipalities deliver, linking values and benefits. Given principles of capitalization, repealing the tax would yield a windfall for property owners financed by those who disproportionately pay the taxes that replace it. The sales tax and property tax are both regressive but the sales tax, the prime candidate for revenue replacement, is the more regressive of the two. The property tax is time-tested. It has been around almost since the Middle Ages, migrating from England to the colonies and the modern US. Expending time, effort, and money to study repealing it is dumb even by Florida political standards. As dumb as picking fights with Mickey Mouse.

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Larry Summers

An EconoFact interview of Larry Summers reveals that the former Secretary of the Treasury, Harvard President and eminent economist does not understand how tax statutes of limitations work. Here’s the quote in the context of his contending, which I fully agree with, that the Internal Revenue Service has been underfunded:

I was appalled to discover that over a three-year period late in the last decade there were a hundred people who had incomes of over ten million dollars who didn’t deign to file a tax return, and the government didn’t even manage to notice before the statute of limitations had run.

EconoFact Chats: Today’s Economic Challenges Larry Summers, Harvard University
Published on February 11th, 2024, pp. 5-6.

Tax statutes of limitation only begin to run against the government when a return is filed. So, if you haven’t filed, the statute has not started to run. Here’s the how the American Bar Association describes it (my emphasis):

No Return or Fraudulent Return. What if you never file a return or file a fraudulent one? The IRS has no time limit if you never file a return or if it can prove civil or criminal fraud. If you file a return, can the IRS ever claim that your return didn’t count so that the statute of limitations never starts to run? The answer is “yes.” If you don’t sign your return, the IRS does not consider it a valid tax return. That means the three years can never start to run.

Robert Wood, IRS Can Audit for Three Years, Six, or Forever: Here’s How to Tell

The code section is 6501 and as the IRS says, when you don’t voluntarily file a return:

We can assess tax at any time under the Substitute for Return program (See IRC 6020). If we file a Substitute for Return, the 3-year limit for assessment doesn’t begin. However, if you later decide to file your tax return, it does start the 3-year time limit for assessment.

IRS.gov

I didn’t try to hunt down the source of Summers’ assertion but assume it is likely the letter from the Senate Finance Committee to the IRS that I previously blogged about (in the section on Hunter Biden’s taxes) reporting nonfilers with very high incomes. The actual number for nonfilers with incomes greater than $10 million, contrary to Summers’ characterization of “hundreds,” was 58 according to the letter. The IRS is going after those taxpayers, of course, and has reported collecting some of the unpaid taxes in a subsequent press release.

Those of us who regularly make mistakes and misstatements can take comfort in knowing that we’re in august company. Thanks, Larry. This does not diminish the case for continued full funding of the IRS, but it doesn’t help to misstate the basis for it.

3/1/2024 update

With regard to pursuing millionaire non-filers, the IRS put out a press release on Leap Day updating its efforts. It has mailed out 25,000 CP59 notices to individuals who did not file tax returns since 2017 and reported income of more than $1 million. This press release makes it clear that the IRS has information returns documenting that income:

These are all cases where IRS has received third-party information—such as through Forms W-2 and 1099s—indicating these people received income in these ranges but failed to file a tax return.

IRS launches new effort aimed at high-income non-filers

The Service will also mail out 100,000 more notices to non-filers with incomes > $400,00 and <$1million. The nonsensical $400,000 threshold must be a result of Biden’s idiotic campaign tax pledge not to raise taxes on people with incomes below $400,000. At least that is the best I can figure. (Going after nonfilers is raising taxes? Yikes.) They will get kinder and gentler notices later, according to a WaPo story (Julie Zauzmer Weil, Thousands of millionaires haven’t filed tax returns for years, IRS says):

Eventually, the IRS said, it will send letters to non-filers at all income levels. The letters for people making less than $400,000 will focus on the fact that they might be missing out on a refund.

WaPo

The WaPo story has a telling quote from a former DOJ lawyer:

Failing to file one year can lead to a snowballing effect, a lawyer said. “They forget one year, and then the next year, they say, ‘Well, if I file now, I’ll get in trouble for the year before,’ … Pretty soon, 15 or 20 years later, they’re in a lot worse trouble,” said Rob Kovacev, a former Department of Justice attorney who said that more than 15 years ago, before IRS budget cuts, his docket was full of non-filer cases, some for very rich people.

WaPo [emphasis added.]

All this points out the corrosive effects of the GOP Congress’s starving of the IRS last decade and why there is no need to fabricate facts or embroider the case for preserving the funding, including the cuts that Kevin McCarthy (RIP) extracted as part of his deal to avoid default on the debt.

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Net Worth and Federal Debt

I don’t know why stuff like this bothers me, but it does. It’s a typical case of cheery-picking numbers to make something seem more persuasive. Normally I grit my teeth and ignore it when it’s not factually wrong, just a case of overreach. For some reason, I decided to post my thoughts on this one, even though I basically agree that the rate of growth of federal debt is too high.

The STRIB printed an opinion piece, Bruce Yandle, Americans aren’t as rich as they feel (10/26/2023), that makes an accounting point that the recent Federal Reserve Board publication that reported a generous increase in household net worth needs to be discounted by the increase in federal debt for the same period. It reports a 37-percent increase in median net worth and a 23-percent increase in the mean or average net worth.

Yandle casts it as too good to be true because the fed publication fails to account for households’ share of the federal debt and he assumes correctly that a portion of the increase is attributable to the COVID pandemic relief payments the feds made. Put simply, the feds borrowed money and distributed it to households. That money will show up in someone’s net worth and as a federal government liability. But we (or our children) will all have to repay it, so it’s somewhat illusory. His quote:

Let’s avoid that oversight. Consider that between 2019 and 2022, when household wealth was rising by 37%, the federal debt rose from $22.7 trillion to $30.8 trillion — a 35.6% increase. Some might say not to worry. After all, isn’t this debt we owe to ourselves? Well, most of it. Of that amount, $7.2 trillion was owed to foreign sources. (I should add that total federal debt now is $33.6 trillion.)

Bruce Yandle, Americans aren’t as rich as they feel STRIB (10/26/2023)

That seemed too close to be true – household net worth goes up by 37% and federal debt by 36%. Is all of the increase really due to federal COVID payments, financed by Treasury borrowing? The irritation is that he says nothing about what the aggregate numbers are. For an academic (Yandle is a retired business school dean), I assumed that couldn’t be an oversight. So, I checked.

The Federal Reserve publication reports an aggregate increase in household net worth of $28 trillion between 2019 and 2022. (I had to calculate it by multiplying the means by the numbers of households for years. Actually, I had to use the number of families, slightly different than households, because that was all that was in the report.) The Treasury reports a $8.2 trillion increase in outstanding federal debt between fiscal year end 2019 and 2022. So, comparing the two numbers, household net worth increased by a net $20 trillion after deducting the increase in outstanding federal debt. Yandle’s account implies all the increase is COVID pandemic relief. At least, I think that is what a normal reader would assume.

Does he still have a point? Yes. The more nuanced concern is that federal debt is growing at a faster rate. It’s especially concerning if is growing faster than the economy and our implicit ability to repay it. You don’t need to cherry-pick numbers to make the point. That’s my point. For the period, federal debt grew at 36% (as he reported) and aggregate net worth from the Fed’s report grew at 25%. The two aggregate numbers are more apples-to-apples than his comparing total debt’s rate of growth to the growth in median net worth. I’m guessing he used the increase in the median (37%) because of its closeness to the increase in federal debt (36%). Makes the comparison look 1-for-1.

The bigger point to cheer regarding the Federal Reserve’s net worth numbers is that the median increase (37%) is so much larger than the mean (22.5%). That means that an average household’s net worth is increasing faster than that of the top wealth households, which dominate the mean. Table 2 shows that the top decile’s net worth increased by 18%, for example.

This effect likely results from what Yandle is pointing out – the COVID relief payments – which were a mildly progressive income redistribution. Flat grants going to most of the population, excluding those with high incomes, financed mainly by the progressive federal income tax and, of course, debt. They obviously had a much bigger effect in the lower part of the income distribution. But net worth still grew by much more than the COVID payments or the total growth in the federal debt (we were running big deficits even without the COVID payments).

This blog post by Noah Smith, Great news about American wealth (10/27/2023) provides a good case for celebrating the Federal Reserve report’s findings. A fair reading is that it does convey good news. The Yandle piece seems calculated to undercut that and in a way that is quasi-misleading. Why the Strib decided to run it is unclear (auditioning for Debbie Downer, perhaps?).

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