The Social Security trust funds supposedly lose nothing from the payroll tax cut. How? To make up for the lost revenues, the Treasury will deposit IOUs into the trust fund for free. In other words, Social Security benefit payments can continue as before and the trust funds won’t be exhausted any sooner than 2037 as projected by its trustees earlier this year. Thus, the government will receive fewer revenues from the Social Security ex‐cash‐cow and must make up for the loss by other means: substitute other taxes, reduce government spending or create larger deficits and debt. But the government just extended low Bush‐era income taxes, reduced estate taxes and introduced investment tax credits — so the tax‐substitution option is out. And given the weak ongoing economic recovery, the option of cutting government spending is also closed. That leaves only higher deficits and debt. What can we expect from such a $100‐billion‐plus payroll tax stimulus? A small and short‐lived, miragelike economic recovery.
Economic logic suggests that a deficit‐financed tax cut would stimulate economic activity in the short term as people choose to work more hours when taxes are low because they can keep and spend more of their hard‐won earnings. Employers may anticipate the increased consumer demand and hire more workers to increase production. As excess production capacity declines, employers also may seek to expand it — ramping up investment demand. Higher investment and consumption could jump‐start a “virtuous process” to pull the economy from its current low‐activity state. This train of events, including a reduction in unemployment to normal levels, could get President Obama re‐elected in 2012, help the Democrats recover from recent electoral losses and thwart the key Republican goal of capturing the nation’s top political office.