Punch Drunk on Dumb Justifications for Stimulus

I am a Sheila Bair fan. I have been for the better part of the five years since the financial crisis hit. (Here's an example.) I wish the national Republican Party would line up behind (most of) the approach she lays out in her New York Times op-ed yesterday. Here's the meat of it:

I am a capitalist and a lifelong Republican. I believe that, in a meritocracy, some level of income inequality is both inevitable and desirable, as encouragement to those who contribute most to our economic prosperity. But I fear that government actions, not merit, have fueled these extremes in income distribution through taxpayer bailouts, central-bank-engineered financial asset bubbles and unjustified tax breaks that favor the rich. 

This is not a situation that any freethinking Republican should accept.

She's absolutely right. To varying degrees, almost everyone on the so-called Left would agree with her sentiments, I suspect.

I think she makes two errors in the rest of the op-ed that are typical of current discourse, even among smart folks.The first is the very next sentence:

Skewing income toward the upper, upper class hurts our economy because the rich tend to sit on their money — unlike lower- and middle-income people, who spend a large share of their paychecks, and hence stimulate economic activity. 

When the rich "sit on their money," they are lending it to people who want to use it for some economic activity. They drive down the cost of capital for people who want to borrow it to invest. That investment creates economic activity. There is nothing less virtuous about this than having low- and middle-income people spend most of their disposable income. But after five years of policy makers and pundits concocting justifications for the government to enact policies to promote spending, spending, spending, I suppose it is not a surprise to read this muddled thinking.

The second error is this notion that a first order issue, or any issue that Republicans should spend their time on, is major overhaul of the tax code. Fundamental tax reform would take years of bipartisan cooperation. We cannot even manage a week of it. And if we could muster the cooperation, we should use it to address the fact that we don't raise enough revenue to cover our expenditures rather than the various ways in which we don't raise it. But even is the political issues could be solved, there are problems with the economic elements of what she proposes.  Here's what she writes:

For instance, as part of renewed fiscal discussions over sequestration, Republicans should put fundamental tax reform on the table and make it our priority to end preferential treatment of investment income, which lets managers of hedge funds pay half the tax rate of managers of shoe stores.

[...]

If we eliminate this and other unjustified tax breaks, we can produce enough new revenues to lower marginal rates and reduce the deficit, according to both the Simpson-Bowles and Domenici-Rivlin debt-reduction plans.

In the first paragraph, she's writing about the carried interest loophole. I agree, wholeheartedly, that that loophole should be closed, along with any corporate tax loopholes we can find. But it is a far cry from closing those few obvious loopholes to the tax expenditures required to meaningfully reduce the deficit. The CBO is quite clear on this matter -- to make a real dent, you have to go after the big tax expenditures. They are, in order of foregone revenue, the exclusion of health insurance premiums from income and payroll taxes, the net exclusion of pension contributions and earnings from taxable income, and the deduction for mortgage interest on owner-occupied housing. None of these three are the exclusive playground of the rich. If she's serious about this idea, she needs to mention those tax policies by name.

In a future post, I will share some additional thoughts on what to make of proposals to curb the use of tax expenditures.