Fiscal conservatism in the GOP is largely defined by whether one is willing to abide by the no-tax pledge offered by Grover Norquist and Americans for Tax Reform (ATR). The implicit argument offered by Grover is that increasing taxes increases the size of government while cutting taxes reduces the size of government. While that seems intuitively correct, it is not true.
Let's begin by noting that "the size of government" is best measured by the change in economic outcomes (who earns what and who has what) caused by government action. Taxes are of course one, but not the only, means by which government can do that.
What most conservatives have a hard time accepting is the fact that, once taxes exist, a decision not to tax x as everything else is taxed has the same effect as taxing x and sending a federal check to x (or the owners of x) equal to the sum of the tax bill paid.
A great example of this sort of intellectual confusion in action is the recent sturm und drang surrounding the tax credit provided to oil refineries for using ethanol. The tax credit saves refineries from having to pay $5.7 billion in federal taxes in 2011, but the exact same thing could be accomplished by eliminating the deduction and cutting a $5.7 billion check from the federal treasury to reward refineries for using ethanol. To complain about federal handouts — as ATR tends to do — while supporting tax breaks for the ethanol production — a position initially taken by ATR this spring — is to make a fetish of form over function.
Government can also alter economic outcomes through borrowing. For example, the government could easily appropriate $5.7 billion to reward refineries for using ethanol and borrow the money to pay for it (rather than raise taxes) and it would escape scrutiny under Grover's rule. That's because the tax bill will come due (with interest) sometime in the future. Incidentally, this further compounds the alteration of economic outcomes by transferring wealth from future taxpayers to present taxpayers.
Regulation is another, less transparent, way to alter economic outcomes. Again, take ethanol for example. The tax credit given to refineries for using ethanol has become increasingly unpopular, so Congress is considering repeal. But Congress has also enacted a regulation mandating the use of ethanol in gasoline (12.6 million gallons in 2011). Repeal of the tax credit would cease the flow of dollars to oil refineries, but the bulk of the economic distortions caused by government support for ethanol would remain.
Now, let's count the ways in which the GOP's obsession with tax revenue uber alles is counterproductive, even if one agrees (as we do) with the advertised goal of minimizing the size of government. First, holding the line on taxes constrains only one of the four tools (taxes, tax deductions, spending without taxation, and regulation) used by government to alter economic outcomes. As long as you expand government in some other way, you live up to your pledge to Grover. Second, the charge that eliminating a tax break is the same as raising a tax (and thus, verboten) turns the alteration of economic outcomes via the tax code into an actual conservative virtue. Third, it encourages less transparent exercises of government power and, thus, makes it harder to police government action. Fourth, and perhaps most importantly, it allows politicians to falsely advertise themselves as partisans of limited government even when they are busily expanding government.
One might counter that, as imperfect as it is, a political focus on tax revenue at least has the virtue of allowing straightforward, easy monitoring of the political class. At worst, holding the line on taxes is a necessary but insufficient step towards less government.
But that's not so. NYU law professor Daniel Shaviro persuasively demonstrated in the pages of Cato's Regulation magazine some years ago how the Bush tax cuts in 2001-2003 actually increased, not decreased the size of government. That's because they had no impact on government spending, which rocketed under the Bush administration.
The tax cuts were simply a decision to buy government services with a credit card rather than with cold, hard, cash. Not only did borrowing to pay our bills incur interest payments that would otherwise not have to be made (which means, at the end of the day, the bill taxpayers will have to pay for all of this government will be higher than it otherwise would have been), it also impoverished future taxpayers in order to enrich present taxpayers with services ... a redistribution of wealth as clear and indefensible as any welfare program conservatives might put in their fiscal gun sights.
The trump that anti-tax activists have always played at this point in the discussion is the so-called "starve the beast" argument. Popularized by Milton Friedman, the starve-the-beast argument holds that the only functional constraint on government spending is to starve it of revenue to spend.
Well, that's a nice thought, but it hasn't worked out that way. The most careful empirical test of that proposition finds that, at least so far, the "beast" is more than capable of growing without tax revenue to fuel its appetite.
The conservative fetish with tax rates and revenues alone is thus entirely misplaced. Partisans of limited government would do well to trade elimination of tax breaks for spending cuts. It's not a compromise of any sort; it's a win-win proposition for partisans of limited government. All that stands in the way is a lot of intellectual confusion. Until it's cleared up, however, conservatives will continue to be, quite literally, their own worst enemy.