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The Payroll Tax Emergency Is ... Over?

Remember when maintaining the payroll-tax cut was the most urgent challenge in the universe? By "payroll tax" I mean the mandatory employee contribution to Social Security's Old-Age, Survivors, and Disability Insurance (OASDI); a separate payroll tax pays for Medicare. OASDI had been lowered from 6.2 percent to 4.2 percent. When Republicans said it was time to let the one-year cut expire the White House set up a countdown clock in the press room that said, “If Congress doesn’t act, middle class taxes will increase in” however many days, hours, and minutes remained until Jan. 1, when the payroll-tax cut would expire. That would be Jan. 1, 2012. By Jan. 1, 2013 last year’s hard-won, second-year renewal of the payroll-tax cut was due yet again to expire. But President Obama wasn’t talking about it anymore. So this time, it expired.

Why was a serious threat to economic recovery in Dec. 2011 of no particular interest a mere 12 months later? It can’t be because the economy is now in terrific shape. Economic growth for 2013 is projected to be slower than in 2012. A year ago unemployment was 8.3 percent. Today (i.e., as of November, the most recent data available) it’s 7.7 percent—a little better, but not a lot better. The Federal Reserve last month in effect declared an unemployment emergency until the jobless rate falls to 6.5 percent. That won’t likely happen for at least two years.

Last year economists were saying that letting the payroll tax rise two percentage points (that’s a $1000 tax increase to families earning at the median) would hurt the fragile recovery. This year they’re saying ... that it will hurt the (now, even more) fragile recovery. Mark Zandi, chief economist at Moody’s Analytics, predicts the payroll tax increase will cut economic growth by nearly half. By contrast, the other, more-discussed tax increases in the fiscal cliff deal are projected to have only a trivial—and, after the fact, probably unobservable--impact.

As numerous commentators are pointing out, a lot of folks who’ve been told their taxes aren’t going up will be awfully surprised when they receive their first paychecks for 2013 and see that their taxes, ahem, actually did go up. For nearly half the country—the “47 percent” (actually, 46) Romney famously spoke of during the campaign—the payroll tax is the income tax. OASDI taxes the first dollar of income up to $113,700, and it’s regressive in two ways. Everybody earning between $1 per year and $113,700 is taxed at the same rate; and everybody earning more than $113,700 is taxed at a gradually-declining rate, because no income in excess of the $113,700 ceiling is subject to the tax. The OASDI payroll tax is a bad tax, and we ought to get rid of it. Almost anything we replaced it with (I’d favor a carbon tax) would be more progressive. (The reason I'm making this fussy distinction between OASDI and the Medicare part of the payroll tax is that the latter is somewhat progressive, and just became more so on Jan. 1.)

Instead of replacing OASDI, we’re increasing it. The reasons aren’t economic, but political. Republicans don’t like cutting OASDI because they buy into the fiction that it’s a pension contribution (even though past contributions don’t come close to covering present costs). Democrats don’t like cutting it because even though they know it isn’t a pension contribution, they believe the future health of Social Security depends on voters getting conned into thinking that it is. Also, at a time when Republicans are pressing for Social Security benefit cuts (just a few days ago, “chaining” Social Security benefits was a real possibility), Democrats fear that maintaining a reduced revenue stream into the program will make it more vulnerable.

If that logic was so compelling when the fiscal-cliff deal was getting hammered out, why was no one applying it to the larger federal budget? The revenue lost by canceling the scheduled tax rate increase—on family income all the way up to $450,000!--is considerably greater. Even compared to President Obama’s last budget proposal (which blocked the scheduled expiration of the Bush tax cuts for family income below $250,000), the White House's concessions  in the fiscal cliff negotiations have reduced deficit savings by more than half. Yet House Republicans are saying they got rolled. I don't get it.