Harry Reid, in his infinite wisdom, has scheduled the debate over how to extend the Bush tax cuts for sometime this September, after the Labor Day holiday which traditionally marks when average voters start paying attention to campaigns. Karl Rove had a great analysis of this subject in the Wall Street Journal just a few days ago for some background. For those of you without subscriptions, his main point is that Reid is a fool for scheduling a debate that can only increase the public’s (accurate, in my opinion) perception of Democrats as being “tax and spend liberals.” Another good point, for long-term forecasting purposes, is that he has to abide by the PAYGO rules that Democrats put in place back in 2007, meaning he has to come up with 1.3 trillion dollars in other spending cuts or tax hikes over the next ten years in order to extend just the middle class tax cuts. That can’t be popular, especially with all the low hanging fruit used to pay for new spending already (assuming the unlikely event that those supposed spending cuts for Medicaid and Medicare providers and food stamp recipients ever actually happen). Alternatively, he can ignore the rules and cede the Democrats moral authority to criticize Republicans for not following them if Republicans want “unpaid for” tax cuts later. Of course, ceding the moral authority won’t stop them for long, so my guess is they’ll just drop the PAYGO idea.

Anyway, the point of this post is not how this plays out politically, but what will ultimately happen to the tax rates. Even if you are in the middle class brackets, be aware that everyone’s taxes will go up if Congress fails to act, and even if taxes are only raised on “the rich,” economic pain is not the sort of thing that can be isolated, and everyone will feel the burden of higher taxes. The difference is the size of the tax increase, and whether you feel the effects directly on your tax bill or indirectly through your 401(k) and paycheck.

This is a tough one to call, but I didn’t start this blog to avoid making predictions, so here goes. First of all, everyone agrees something has to be done, and that puts pressure on the leadership to get a bill to the President before January 1, when the rates go up. Of course, it is within Congress’ power to cut taxes retroactively, but its easier and makes more economic sense to pass a bill sooner rather than later. At any rate, the important point is that the pressure is on Congress to act in the near future. Secondly, Reid lacks the votes for cloture without extending the cuts for everyone. With several Democrats speaking out against raising rates on anyone, it is unlikely that a Republican will break ranks. And, for what its worth, Snowe, Collins, and Brown aren’t up for election this year. Three, the Republicans have no incentive to compromise. They like having the debate, its a useful political issue for them, and one on which the Democrats have generally been incoherent. Four, the Democrats have enormous incentives to compromise. If they can’t pass an extension before Republicans take over, then Republicans get to write the law. This is another reason why the Republicans have little reason to compromise.

In summary, the Republicans are negotiating from a position of strength, despite their smaller numbers. It is therefore my official prediction that the tax cuts will be extended for all earners, which is great news for the economy and reduces the chances of a double dip. The question is not so much if they will be extended, but when. If the Democrats wise up, they’ll agree to an extension before the election, which will help them portray themselves as moderate, bipartisan, and doing something about the economy. If they don’t, then Republicans will take care of it a couple months later as the first order of business. I admit, I don’t know whether Democrats will wise up, but I’d put the chances of it at about 2 in 3.  Republicans will throw them a bone in negotiations, probably by making the extension last only till 2012 or, more likely, 2013 when Democrats have a hope of being back in charge, and possibly by conceding to minor rate increases that don’t add up to much. Chances, are, the Democrats will accept the bone rather than let Republicans write the bill later without much Democrat input at all.

But David, you say, won’t the middle class blame Republicans if their taxes go up because of an inability to reach agreement with Reid, or later, with Obama? Well, no, because Republicans can hold out for a while, promise to act on the cuts first thing in a new session, and, chances are, even override a possible presidential veto on the matter with the help of enough concerned or shell-shocked Democrats next year.

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