An approach to tax reform that some policymakers are heavily promoting — committing to costly and regressive tax rate cuts upfront, with a promise to offset the cost through cuts in unspecified tax expenditures — holds high risk of turning tax reform into a trap that prompts policymakers toward one of two undesirable outcomes.
First, even if policymakers summoned the political will to address the inefficiencies of the mortgage interest deduction, the upside-down tax incentives for retirement saving, the preferential rate for capital gains that induces substantial tax sheltering, and other inefficient tax expenditures, policymakers would apply the resulting revenues first to help finance expensive and regressive tax rate cuts rather than to reduce deficits. Given the magnitude of some current rate-cut proposals, little if any deficit reduction would likely result. In addition, the overall package would likely be regressive, given the difficulty of cutting tax expenditures substantially and in ways that are sufficiently progressive to offset the regressive effects of across-the-board rate cuts.
Second, if policymakers cannot agree on specific measures to broaden the base on a very large scale, they will have committed themselves to specific rate cuts that may prove politically difficult to abandon. The result could be tax reform that produces no deficit reduction or even increases deficits while making the tax code less progressive — the opposite of what the nation needs. Policymakers might try to mask this failure at deficit reduction through “dynamic scoring” — the proposed process by which rate cuts are assumed to generate significant economic growth that drives up tax revenues, despite the lack of strong evidence for such results. Such a move would impair the credibility of the budget process by forecasting an increase in revenues (to finance rate cuts or reduce the deficit) that may very well never materialize.
Neither scenario would help to put the nation on a sustainable fiscal path or ensure that the burden of deficit reduction is equitably shared.