Strategy for the Fiscal Cliff

As we approach the fiscal cliff, what should the Republicans do? Here are some possibilities.

1. Accept Obama's proposal, but add a provision that the higher rates won't take effect until a Constitutional amendment is passed that sets a maximum allowable tax rate. Obama has been saying that the rich should pay "just a little bit more". This calls his bluff. If he really means it, he would accept the offer. If his plan is really just a first step towards "a whole lot more", then he will reject it.

2. A different provision would be to tie the maximum rate to the ratio of tax revenues to GDP. Revenues are only 16% now, after having dropped below 15%, down from their historical levels of 18%, due to the recession. The idea is that if revenues rise above 18% then the tax rates would drop. This provision would prevent (or make less likely) a permanent increase in tax revenues.

3. Still another provision would be to tie the maximum rate to the ratio of total expenditures to GDP. This has historically been about 21%, but rose to 26% when the recession started. The idea is that if spending doesn't drop back to 21%, then the higher tax rates would expire. This provision would deter Democrats from increasing spending.

4. Still another approach would be to offset the increased taxes on the rich with the abolition of the death tax. This would be appealing because that tax is the most inefficient.

5. Still another approach would be to pick a numbers (call it alpha) and use it to compute a linear mixture between the status quo and the post fiscal cliff. For example: the tax rates now vary from 10% to 35% and would revert to 15% to 39.6% if we go over the cliff. If alpha were 50% then the new rates would range from 12.5% to 37.3%. The law could give the President the authority to choose alpha after the law has been passed. That would make it more difficult for him to reject it, because it would give him the most flexibility.

6. Accept Obama's proposal, but put a one year limit on it. That would prevent (or at least make less likely) a permanent increase in the maximum tax rates.

Posted 2012/December/31