Commentary

Cut Taxes and the National Debt

By Stephen Moore
October 21, 1997

Republicans in Congress are fighting over what to do about the emerging federal budget surplus. Former Reagan economist Larry Kudlow reports that, if the economy continues to grow, the surplus could reach more than $100 billion a year by 2000. That’s not chump change.

Rep. Mark Neumann of Wisconsin, an old-school deficit hawk, argues that the federal government has a moral responsibility to use any surplus money to retire the $5 trillion Cold War debt. Supply-side tax-cutters like Jack Kemp, Michigan’s Sen. Spence Abraham and Rep. John Boehner of Ohio (chairman of the House Republican Conference) spurn that approach as “austerity economics”; instead, they urge that any budget surplus be returned to citizens through tax-rate reductions.

Which side is right? Perhaps both. Kemp, Abraham and Boehner are sensible when they argue that Congress should propose much larger tax cuts than were enacted this summer. It is time to repeal the Cold War tax regime with a $100 billion to $200 billion annual tax cut. But there is also virtue in trying to retire some of the $5 trillion debt incurred over the past quarter century. Supply-siders should recognize that reducing the debt burden is simply one way of cutting the tax burden on future Americans. The logic is similar to that used by many households that accelerate their mortgage repayments today in order to reduce them down the road.

The two goals of reducing taxes and reducing debt are not incompatible in a postwar era. In fact, every postwar era in American history, with the exception of the years after the Vietnam War, has been characterized by simultaneous tax cuts, budget cuts and debt retirement. Much of that history is retold in Robert Higgs’s economic classic Crisis and Leviathan. Congress would do well to read that book and learn its fiscal history lesson (see table).

For example, during World War I the top income tax rate was raised from 7 percent to 70 percent to fund the war effort. After the war Congress passed the Harding-Coolidge tax-rate cuts, which brought the top rate back down to 25 percent. Expenditures also fell dramatically after the war — from $18.5 billion in 1919 to $2.9 billion by 1926. The government ran a budget surplus in every year from 1921 to 1930, with more than one-quarter of the war debt paid off.

Or consider the aftermath of World War II (1945-1951). Federal expenditures were sliced in half, from $92.7 billion to $45.5 billion. By 1950 total taxes were sliced by 15 percent, though the tax burden was still much higher than it had been before the war. The federal government ran healthy budget surpluses in four of the five post-World War II years.

During the Korean War, federal expenditures rose from $45.5 billion in 1951 to $76.1 billion in 1953. By 1955 expenditures had been cut by 12 percent to $68.0 billion. The budget was balanced by 1956, and $7 billion of the debt from that military conflict was paid off, despite repeal of the wartime tax surcharges and reduced total revenues.

Nothing like that has happened so far in the post-Cold War years. From the peak of the defense buildup in 1986 through next year, military outlays will have fallen by 3 percentage points of gross domestic product. Real defense outlays have fallen by $100 billion. Yet the total federal budget has grown from $1.2 trillion in 1987 to $1.6 trillion in 1997 after inflation.

The post-Cold War era is also unique in that this is the first time that tax rates have been raised (in 1990 and in 1993) after a war has ended. The puny 1997 tax cut recaptures only about 20 cents on the dollar of the 1990 and 1993 tax increases. Hence, for the first time in history, a period of peace and prosperity has led to higher, not lower, taxes and higher, not lower, total outlays. If there has been a peace dividend, taxpayers haven’t seen it.

So the lesson of history is that both Jack Kemp’s and Mark Neumann’s goal can and should be accomplished. Taxes should be cut, and some of the debt should be retired. The way to do that is to start paring our world-record government budget.

The most important thing to do is to settle the feud between the deficit hawks and the supply-siders and lay claim to any budget surplus for debt repayment and tax cuts before the surpluses emerge. That will help forge a political constituency for those uses of the surpluses in much the same manner that the left has created constituencies for deficits in the past by offering expensive spending programs.

One thing is certain in the debate between supply-siders and debt hawks. If they don’t come to an agreement soon on the budget surplus, spendthrifts like Democratic Sen. Ted Kennedy of Massachusetts and Republican Rep. Bud Shuster of Pennsylvania will find hundreds of imaginative ways to spend the money on new government programs — national health care, government-run day care, every blade of grass in America paved over with a new highway.

If that happens, America will have won another war but lost another peace.

Losing the Peace
U.S. Budget Policy During Times of War and Peace
(In billions of dollars)
Spending Tax Receipts Deficit (Surplus)
World War I      
1919
$18.5
$5.1
$13.4
1922
$3.3
$4.0
($0.7)
World War II
1945
$92.7
$45.2
$47.6
1948
$29.8
$41.6
($11.8)
Korean War
1953
$76.1
$69.6
$6.5
1956
$70.6
$74.6
($3.9)
Vietnam War
1969
$184
$187
+$3
1972
$231
$207
($23)
Cold War
1989
$1,143
$991
$152
1992
$1,382
$1,091
$290
Doug Bandow, a member of the bar in California and Washington, D.C., is a a senior fellow at the Cato Institute.