The First Most Obvious Tax To Eliminate If You Want To Increase Employment: The Payroll Tax

It seems pretty obvious that the U.S. economy needs to create more jobs. So obvious that there’s an obvious fix that ought to be considered: elimination of payroll taxes. Taxation is necessary as the price of civilization but in the world of taxation it is axiomatic that what you tax you will get less of. So look at what you tax. Do you really want to tax employment?

Headlines on Dwindling Employment: Fewer and Lower-Paying Jobs

The headlines rolling in about national employment, or the lack thereof, make it clear the situation is sensationally bad and headed for worse. There aren’t enough jobs and the majority of those that exist need to be better paying At the meager rate that the U.S. economy is creating jobs, the relatively good job figures reflected by the uptick of jobs in the September jobs report (103,000 new jobs, better than the number of jobs added over the summer) will not be enough to keep pace with the growth in population. Consequently, if job creation only remains at this level, and there is reason to think it won’t even do that, the nation’s unemployment rate will not go down from 9.1 percent. That's already unacceptably high. If the job creation numbers return to where they have been recently the unemployment rate will rise.

The reason to think job creation figures could likely head down again is that real household income is declining and this, as previously pointed out in an earlier National Notice article, is likely to lead to a downward spiral, particularly as it cycles through real estate values that could be very similar to the dynamic during the first Great Depression.

Continuing High Unemployment Rate, Perhaps Headed Up

Here from the headlines:

The New York Times on the last job report: Adding Jobs, but Not Many, U.S. Economy Seems to Idle, by Motoka Rich, October 7, 2011

The economy is not growing fast enough to bring down the unemployment rate, which held steady at 9.1 percent in September. Local governments and school districts are cutting large numbers of workers. And about a third of the jobs added by the private sector last month were actually 45,000 Verizon workers who had been on strike during August and were simply returning to work.

American Public Radio’s Marketplace about the same report: Jobs added in September, By Mitchell Hartman, Friday, October 7, 2011. Marketplace's Mitchell Hartman interviewed economist Kevin Hassett at the American Enterprise Institute who thinks:

. . . . we'll plateau around 100,000 new jobs a month for the foreseeable future.

And he interviewed Harvard economist Lawrence Katz to conclude that this means “the unemployment rate won't budge and the six million long-term unemployed won't get back on the job,” or in Katz’s own words:

The modest job growth that we've seen is just about what you need to keep up with population growth. It's not enough to bring people back to work.

6.7 Percent- Falling Average Income

At the same time the Times is reporting about declining incomes that “between June 2009, when the recession officially ended, and June 2011, inflation-adjusted median household income fell 6.7 percent”: Recession Officially Over, U.S. Incomes Kept Falling, by Robert Pear, October 9, 2011:

In a grim sign of the enduring nature of the economic slump, household income declined more in the two years after the recession ended than it did during the recession itself, new research has found.

* * *

That reduction occurred even though the unemployment rate fell slightly, to 9.2 percent in June compared with 9.5 percent two years earlier. Two main forces appear to have held down pay: the number of people outside the labor force — neither working nor looking for work — has risen; and the hourly pay of employed people has failed to keep pace with inflation, as the prices of oil products and many foods have jumped.

During the recession itself, by contrast, wage gains outpaced inflation.

One reason pay has stagnated is that many people who lost their jobs in the recession — and remained out of work for months — have taken pay cuts in order to be hired again.

Here is the Times graph: Declining Household Income, October 9, 2011.

Eliminating or Reducing Payroll Taxes Means What?

Proposing to eliminate or reduce payroll taxes does not mean to eliminate income taxes or associated income tax withholding procedures. Instead the proposal is to eliminate or significantly reduce the cost of Social Security, Medicare and unemployment insurance.

Do it Long Term and Across the Board

Employment often is and needs to be a long-term relationship (among other things it is not always easy for employers to quickly fire people) so, to be meaningful, any reduction or elimination of these taxes would have to be long-term and assured and understood to be long-term when implemented. The adjustments should also be broad-based, applying to all workers: In other words the temptation to tinker around the margins and reduce taxes only for `newly-created’ or `added’ jobs should be rejected. That’s just too complicated and leads to all sorts of senseless and unhelpful accounting ruses to qualify.

Social Security Structure Remaining Intact

Elimination of these payroll taxes does not mean having to change the Social Security Trust structure. The same amounts would have to be deposited into the trust to keep it actuarially sound but the moneys would have to come from somewhere else. Payouts to retired workers who worked more years and earned more would still be greater, just as under the current system. That means that more payments would have to go into the system when the economy was booming and more workers were working, but isn’t this the exactly the kind of problem/challenge that it is good to have?

Medicare and Unemployment Insurance

By the same token, all that is good about or bad about the formulas pursuant to which money is set aside for Medicare or as unemployment insurance could remain intact, but to the extent that these formulae don’t make sense they could be changed. It does make sense to save against a rainy day and, when the economy is good, set aside funds for the payout of unemployment benefits in the future. But that doesn’t mean that an actuarial relationship can be exactly calibrated or that payout of unemployment benefits shouldn’t be continued when the economy is especially bad.

On the other hand, does it make sense that Medicare taxes should be based on employment at all, that employers should perceive the (future) provision of healthcare, generally, for persons over 65 (currently) to be a cost of employing additional workers? In fact, what proper relationship should there be between healthcare and employment at all? To the extent that healthcare (fostered by special tax treatment- i.e. by excluding employer-provided healthcare benefits from income taxation- or whatever) is viewed as an essential incident to employment then, healthcare costing what it does today, gums up the employment economy. It makes it much harder for employers and employees who are otherwise a good fit for each other to match up for the right reasons.

A Revenue Shortfall That Would Need To Be Addressed?

If payroll taxes were cut back wouldn’t a resulting shortfall in revenue need to be addressed? Yes, in the long term. (Economists are diagnosing the economy to be troubled by a lack of consumer demand so pumping income into consumers’ pockets without addressing it immediately might make sense right now.) But it would not necessarily need to be addressed in the immediate term, during a bad economy, when we are deficit financing all sorts of other things like the Afghanistan and Iraq wars.

Where would the foregone payroll taxes be made up? Anywhere that makes sense. Arguments are being made that the wealthy, the corporations, and the profits they are making should not be taxed because they are the nation’s self-described “job creators” even if, when given the opportunity, they choose to do other things with their extra cash rather than create jobs. Instead of trying to create jobs by not taxing income flowing to wealthy theoretical job creators, it makes sense simply to tax actual job creation less by eliminating payroll taxes.

Payroll Taxes vs. Income Taxes: The Wealthy vs. the Rest of Us

What if it was decided that the resulting shortfall in revenue could be made up nowhere except by an increase in income taxes? Would increased income taxes wind up being essentially just a reversal of the cut on payroll taxes? Are payroll taxes just the same as income taxes? No: Income taxes include taxes on capital gains and investment income. Further, income taxes can and should be progressive with the wealthier paying at a higher rate than the poor and middle class. Payroll taxes are regressive with the poor and middle class paying a higher percentage of their taxed pay than the wealthy.

Don’t taxes on income, like taxes on payroll, result in less employment when people don't seek employment because the salary paid in income will be taxed? Are income taxes paid by an employee securing employment the same as payroll taxes that must be paid by an employer providing that employee employment? . . .

. . . That can get into the lengthy and abstruse arguments economists engage in when they debate where the “incidence” of a tax (or subsidy) falls, who actually pays a tax when a transaction between two parties is made subject to that tax whether or not one or the other party is nominally considered responsible for paying it. But, the ultimate answer is complicated and also tied up with complex psychology. Among other things the employee is for various reasons likely to value a job for the sake of the job itself, not just the income. Even when income is taxed progressively at a higher rate at the higher end of the spectrum it is doubtful that an individual would want to be significantly less successful or productive just because he was paying more taxes.

Obama Has Suggested Lower Payroll Taxes

Obama has proposed temporarily cutting payroll taxes. (Remember it was suggested above that to be effective any such cut should be long-term.) One might consider that Obama's proposal has, to date, been under-reported and under-analyzed. For more on this see:

Obama Challenges Congress on Job Plan, by Mark Landler, September 8, 2011

Old Tax Relief Seen as Anchor in Obama Plan, by Jackie Calmes, September 6, 2011

September 14, 2011, How Payroll Tax Cuts Can Create Jobs, by Casey B. Mulligan

News Analysis, Plan’s Focus on Social Security Taxes Reflects Its Modest Ambitions, by Binyamin Applebaum, September 8, 2011

Politifact: Barack Obama on Monday, September 5th, 2011 in a Labor Day speech in Detroit: Barack Obama says payroll tax cut has boosted average family income by $1,000

Former Labor Secretary Robert Reich has weighed in with a brief article supporting a reduction of payroll taxes although the precision with which he suggests parameters is perhaps somewhat limiting to the imagination: Reich: Eliminate payroll taxes to improve economy, Marketplace, Wednesday, August 25, 2010.

Why Does the Republican Opposition Dislike Reducing These Taxes?

President Obama has tweaked the Republican opposition for being philosophically inconsistent in not supporting lower payroll taxes: After all, aren’t these Republican supposed to be opposed to taxes in general, even routinely signing on to anti-oaths?

There are reasons for the Republican opposition to oppose reduction of the payroll tax, reasons other than that they want to reflexively oppose Obama about everything, and beyond the fact that many Republican's likely have no interest in seeing the economy improve before the upcoming general election. Here are two points. (Does it let the cat out of bag to offer this analysis that others don’t seem to be offering elsewhere?)

One reason for Republicans to oppose payroll tax elimination is that a shift away from dependence on payroll tax revenue could result in a shift that winds up with lower taxes on most low- and middle-income wage earners and higher taxes on the income of the wealthy, replacing regressive payroll taxes with more progressive taxes on investments and capital gains.

The other reason the elite of Republican party leadership likely don’t want such a change in the payroll tax system is that there are many within the party who have their eye on handing a gift to Wall Street by unwinding Social Security and redirecting to Wall Street the contributions that are currently paid into the Social Security Trust Fund. Turning the investment of these vast sums over to Wall Street's brokers would be a much more expensive system than we have now, ridden with risks and a potential for fraud that doesn’t currently exist. That, however, is what some Republicans have their eyes on. If payments currently going into the trust fund became untethered from the payroll tax payments that now come in from individual workers (and were replaced with deposits that clearly came directly from government), Republicans would have a much harder time arguing for and trying to implement their desired switch over to a Wall Street benefit-based system.

Not a Panacea, Only a Start

While reduction or elimination of payroll taxes is the first most obvious tax to eliminate to increase employment, it would not be a panacea. It would not be a panacea because of the structural problems that need to be addressed in the American economy today. But to the extent that some of those problems are tied in with an increasingly skewed distribution of wealth it might begin to address at least some of those structural problems. Historically, skewed distribution of wealth and a lack of regulation of the activities of the wealthy and the financial sector have accompanied significant economic downturns like the Great Depression. We’ll have to leave off here though. The country’s ability to address its problems through versatility, innovation and the generation of new industries when it is faced with the increasing prevalence of lumbering (government-assisted) conglomerates and monopolies is a discussion for another day.

Inflation That's Causing Deflation: Some Not So Very Good News For the Real Estate Market

Inflation, deflation, stagflation: A little bit of inflation might be good for the economy, but too much is bad, as are deflation and stagflation.

In some ways that does not bode well for the national real estate market. It looks like we may, for a while, be experiencing the worst of all three of these economic problems. While real estate is often thought of as hedge against inflation it isn’t a hedge against the kind of inflation we are about to talk about: Inflation that causes deflation in the real estate market.

A Depressing Review Respecting the Concerns About Classic Deflation

Most people understand that what was going on during the Great Depression was not good news. It was a vicious cycle and the problem was deflation. The economy seriously slowed. Jobs were lost everywhere. As a result the prices of everything declined. If you were holding cash that was good because your cash was more valuable. But if you had to pay a mortgage, or rent property you were in trouble because you were now obligated to make payments that were effectively, in real terms (adjusted for deflation), more expensive than what you had originally agreed to, more than what you originally bargained for. The result: You might be propelled into a default. In fact, thinking it over, you were given a good reason to default on your obligations; your home, the property you were paying the mortgage on, was no longer worth as much as you once agreed to pay for it.

Deflation, Unemployment and Low Wages

Defaults then generated the vicious cycle mentioned. Spreading defaults meant that foreclosed upon properties flooded the market, lowering property prices still further- - adding to the deflation which would in turn again cause more defaults and around and around you could go. The slack could be picked up by increased employment but that is not what happened and there is a problem with expecting an uptick in employment in that situation. Deflation contributes to further unemployment and lower salaries and so that also becomes part of the vicious cycle. Generally, real estate price downturns follow rises in unemployment with a generous lag in time. But a slow real estate market contributes to unemployment.

The Money Supply and Keeping Deflation At Bay

Everyone knows that deflation is not good for the economy. It is a trap to be avoided. The way to stay out of that trap is to pump up the money supply enough so that prices don’t go down. That’s what the federal government via the Federal Reserve was trying to do with its effort at monetary easing, the last go-round known as QE2 for “quantitative easing, the second round.”

QE2's Fine Calibration: Walking the Line Between Staving Off Deflation and Causing Overheated Inflation

The Fed is was trying to finely calibrate the easing so that there would be enough additional money in the system to keep the economy moving and avoid deflation but not, on the other hand, overheat the economy with runaway inflation. It is to be remembered that a lot of money has already been pumped into the U.S. economy with the stimulus packages, and like the Vietnam era, with heavy spending on wars paid for with debt, not taxes (which led to high inflation after the Vietnam war). So it is quite possible that one day inflation could really take off.

Funded Inflation. . .

In fact, the Fed’s quantitative easing has, indeed, helped fund some inflation. The problem with the Fed’s quantitative easing, however, is that, aside from the fact that some felt it was too timidly restrained, its potential for deflecting deflation in the housing market was sapped as prices rose, particularly in two other areas: Fuel and food. The price of food is going up (with world food prices hitting a record in January) largely because of global climate change events. What are people to do when the price of eggs goes up 50%? The price of fuel is going up because we are still relying on the fossil fuels causing the climate change. And because we are importing so much of the oil, American employment doesn’t go up when those prices do. Instead, American employment goes down. The price of raw materials, including rare earth elements are also going up as other countries economies compete (out-compete?) with our own economy for them.

. . . Accompanied by Deflation

To the extent that the inflating prices driven by the inelastic demand for relative necessities like food and fuel absorb increases to the money supply intended to deflect the possibility of deflation we can get the worst of all possible worlds: Overall, we can have inflation as people shell out to pay for what are largely necessities, with things like oil being imported, while no money is left over for the more discretionary expenditures like the bigger and bigger homes in which Americans have been choosing to live in the last several decades, which means a continuing cycle of deflation and unemployment in those home sectors of the economy.

Consumer Income is Deflating For Most Americans

The inflation means consumers have less to spend in real terms overall. Over the last year, prices are up by 3.2 percent but average hourly earnings were only up 1.9 percent during the year. (See: U.S. wages can't keep up with consumer prices, Marketplace Morning Report, Friday, May 13, 2011.) So, consumers are losing ground financially with less real income to spend even before most of what they do extra to spend is directed to the rising fuel and food costs.

For most Americans whose principal income comes from wages rather than investments the decline in real purchasing power is exacerbated by the fact that they are on the short end of growing income inequality.* They have less comparative purchasing power as wage income declines relative to income overall which includes investment income. Recently released figures for March show that the rise in wage and salary income was only 0.3 percent but the rise in income overall was 0.5 percent. (See: Consumer spending rises on higher prices, Marketplace Morning Report, Friday, April 29, 2011.)

(* Today the top 1 percent takes in more than 20 percent of the nation’s income, in fact, almost a quarter of all the nation's income in any given year and controls forty percent of the country's wealth. Meanwhile, the bottom 40% of the country currently has only 0.3% of the nation’s wealth. According to Professor John Quiggin: “the vast majority of benefits of economic growth have gone to people in the top 10 percent of the income distribution. Within that 10 percent, the top 1 percent has done much better than the remaining 9 percent, and within that 1 percent, the top tenth of a percent has done even better.”)

Stagflation and the Real Estate Market

Remember the “stagflation” of the 70s? That’s essentially what we are experiencing again. The stagflation fo the 70s was when we learned that inflation and recession were not mutually exclusive, as previously believed. Back in the 70's under Nixon sharp increases in oil and food prices were both an issue. What you get: 1.) slow economic growth, 2.) high unemployment, 3.) rising prices, 4.) economic stagnation. That’s the classic view. Here is something this discussion is looking to add to the list: “5.) falling real estate prices.” That’s because the rising prices are confined to the inflation of the prices for other commodities out-competing real estate (and often not factored or considered to be part of the core inflation being measured).

Profit might go up in the oil sector as the energy firms take a tithing on all the additional cash flowing through that part of the economy, but persistence of the situation described above won’t be good for the real estate market.

Proving Numbers

Do we see any empirical proof of this?

According to the Zillow home price index home prices have been drastically declining since June of 2006. (See: First Quarter Brings More Dismal News for Housing Market, May 8, 2011, Katie Curnutte from which the chart above- similar to the one appearing below- is extracted.) Home values fell again last quarter by about three percent. 1.5 million homeowners are seriously delinquent on their mortgages. 2 million homes are in foreclosure. (See: U.S. home values fall 3%, By David Gura, Marketplace Morning Report, Monday, May 9, 2011 and Housing numbers continue to slide, Marketplace Morning Report, Monday, May 9, 2011.) Zillow is now predicting that the real estate market won’t bottom out until 2012, “at the earliest.”

Here are two other related Marketplace reports:

When will housing climb out of the recession?
Marketplace Morning Report, Monday, May 9, 2011

When will we hit bottom in the housing market?
Marketplace Money, Friday, April 22, 2011

Proving Exceptions?

The exceptions to this bad news?: Places where there is employment. Also, government policies that temporarily intervened with subsidies to boost home sales positively influenced the housing market for the brief while that they were in effect, but it is not necessarily a good thing that these policies artificially postponed reckoning with a final bottoming out of the market necessary to reflect low employment. Nor is it likely a good thing that there is now an oversupply of housing resulting from the bubble that ensued when the government pumped money into the housing sector with aggressively lowered interest rates and unregulated and unwise subprime mortgage lending.

Affordable Housing, But For Whom?

The silver lining of the oversupply is, arguably, that in the end it will be good for people looking for more affordable housing. . . . But that only works if such families have managed to retain jobs or income sufficient to afford even those lowered prices. Also remember that to the extent that there has been inflation in other areas of the economy such as food and fuel (accompanied by low interest rates on bank deposits), those on fixed incomes or retirees living on invested savings have actually had their incomes effectively reduced. (See: Low interest rates have costs, not just benefits, by Bob Moon, Marketplace, Tuesday, April 26, 2011.)

If you want to hear another perhaps facetiously contrarian point of view go to this article to consider the argument that substantial money is actually being pumped into the national economy (possibly to the tune of $50 billion) by defaulted homeowners living cost-free in the homes on which they no longer are paying the mortgages: 'Squatter rent' may benefit the U.S. economy by $50 billion, Marketplace, Friday, May 6, 2011.

An Oddball Silver Lining Theory

The proponent of this idea, Michael Feroli, chief U.S. economist at JPMorgan Chase, calculates that with about 8 percent of mortgages of the nation’s 44 million mortgages being past due, there is about $800 billion in mortgage payments that are past due, so that about $50 billion per year can be redirected by the defaulting mortgagor families and is therefore “free for other purposes.”

For Mr. Feroli’s theory to work it has to mean that this money is more beneficial when spent by the defaulting families directly rather than had they paid what was owed to the banks to have them do with what they would. Mr. Feroli supposes that the families being in dire economic straits will quickly spend the money on necessities. Conversely, if the banks aren’t paid they might fail, in which case the FDIC picks up the tab at taxpayer expense. The Marketplace coverage doesn’t say what Mr. Feroli thinks happens if the banks simply stay afloat without getting the money. Is he presuming that banks are tending to just sit on money these days?

In Late April S&P Case-Shiller Home-price Index Precursed Zillow's Early May News

Here from another Market Place segment that covered the latest S&P Case-Shiller home-price indexes figures showing a drop in prices at the end of April:

the amount of housing production that's taking place . . . . went below the 50-year-low level. That's a depression for the housing sector. It's been down 30 months at low levels, and it's because the demand is not there.

(Home prices continue to drop, Marketplace Morning Report, Tuesday, April 26, 2011)

See also this Marketplace story about the release of those Case-Shiller index figures which emphasizes how lower home prices translate into reduced consumer spending: Home prices going down, by Nancy Marshall Genzer, Tuesday, April 26, 2011.


And a NPR Planet Money post (which provided the chart above by Alyson Hurt/NPR) extracts these points out of those Case-Shiller report numbers:

• Home prices fell by 1 percent between October and November (according to Case-Shiller's 20-city composite).
• Prices fell in 19 out of the 20 cities tracked by the index between October and November.
• Prices fell by 1.6 percent between November of 2009 and November of 2010.
• Home prices fell in 16 out of 20 cities between November of 2009 and November of 2010.
• Eight cities hit new, post-bubble lows in November: Atlanta, Charlotte, Detroit, Las Vegas, Miami, Portland, Seattle and Tampa.

(See: Home Prices Keep Falling, January 25, 2011, by Jacob Goldstein):

If you go to the that article you will also see a table of home prices in the 20 metro areas tracked by the monthly Case-Shiller report.

The Glutting Oversupply of Homes

Perhaps if Americans had more jobs and at better salaries there wouldn't be such an oversupply of housing, but as things now stand, there is a glut of homes people can't afford and that glut stands in the way of a bottoming out of home prices and their eventual recovery. It's a problem in cities across the country such as "Detroit, Las Vegas, Miami, Phoenix and Tampa." In some cities the statistics are truly astounding. For instance, in Miami three out of five homes sold there are foreclosures or short sales:

Foreclosures have flooded the market in Miami. Three out of five homes sold there are foreclosures or short sales. (Short sales occur when lenders allow homes to be sold for less than what's owed on the mortgage.)

(See: Bargain Prices Help Reduce Glut Of Foreclosures, by The Associated Press, April 26, 2011.)

Three out five homes? That's 60% of the market. And that's recent news.

Skittish Banks

The oversupply and this dire picture leaves banks skittish. When, as a result, they refuse to provide financing there is less capital in the market to finance transactions that aren't foreclosures or short sales. (See: Housing market faces headwinds, by Janet Babin, Marketplace, Monday, May 9, 2011.) The banks have good reason to be skittish with fraud in the housing lending market increasing.

The Latest Bad News

It looks like there may be even more bad news piling on. It is reported that the federal government which “last year backed nine out of 10 new mortgages nationwide” is likely to stop providing government backing for larger loans. For three years now government agencies like Fannie Mae have been backing mortgages as large as $729,750 which, in high-cost areas like New York could be for a not very big apartment (and what it costs to build one). If government backing drops back down to $483,000 it could definitely drag down the market in those high cost areas like New York, California, New Jersey, Connecticut and Massachusetts. (See: Federal Retreat on Bigger Loans Rattles Housing, By David Streitfeld, May 10, 2011.)

Yo-Yo Federal Policy

If prices do get dragged down it will be another example of questionable government policies to support the housing market. There is nothing necessarily wrong with subsidizing the housing market, and backing mortgage loans may be a good strategy to do that. Maybe high-price loans should be excluded from support and there are certainly countervailing arguments that populations living in higher-cost areas of the country should not be discriminated against. If there is a cut-off point for federal backing it should escalate over time as prices rise. What is highly undesirable, however, in terms of federal housing subsidy programs are in-again-out-again strategies, because without consistent commitment the market will only yo-yo, ending on the downside when they come to an end.

As it is, we have already been waiting a very long time to find out where the actual bottom of the market is after the ending of the last set of temporary federal housing subsidies were terminated.

What's the best federal strategy to boost prices in the housing market? It's the obvious one: The federal government needs to create an economy that generates more and higher-paying jobs.