The worst thing about the failure of the super committee lawmakers to reach a deal on deficit reduction may be what it tells us about taxes next year.
If Democrats and Republicans are incapable of working together on important budgetary issues, it is likely that they will be unable to agree to extend the payroll tax cuts put in place to fend off a recession. Payroll taxes were cut from 6.2 percent to 4.2 percent at the start of this year. The cuts are set to expire in the beginning of 2012.
Make no mistake, this would be very, very bad for the economy. Since taxes would go up without any compensating increase in government spending, the end of the payroll tax cut would erase billions from the economy. It would be as if everyone in the country subject to payroll taxes suddenly got a pay cut. Reuters reports today that the payroll tax cut is worth about $934 a year to the average worker, according to a report from a Washington think tank called the Center on Budget and Policy Priorities, a Washington think tank.
To put it slightly differently, we'd be introducing government-caused deflation for no other reason than a political impasse on Capitol Hill. According to Reuters, RBC Capital Markets estimates that allowing the payroll tax cut to expire would reduce U.S. gross domestic product growth by 1 percentage point in 2012. It would also increase the government's proportion of overall demand in the economy and diminish the private sector's share of overall demand, leading to an economy more tilted toward government spending priorities.
Both parties should be very worried about being the party that raised taxes on workers and forced an unnecessary economic contraction in an already sluggish economy.
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