An imperfect, but not-that-bad, deal on the tax cuts

By Ezra Klein

The White House and the Republicans are pretty close to a final deal on the Bush tax cuts. Here are the specifics, though it's worth saying that as near as this is to completion, it's still not done, and so it could change:

1) The Bush tax cuts get extended for two years -- with one ugly surprise: For the next two years, estates up to $5,000,000 will be protected from the estate tax, and the tax rate for the few estates that are taxed will be 35 percent. That's worse than the 2009 estate tax ($3.5 million exemption, 45 percent rate), though better than this year's "no estate tax at all." The difference in expected revenue between the 2009 levels and the compromise levels is $10 billion or so.

2) The refundable tax credits are extended: The Earned Income Tax Credit, the Child Tax Credit and the American Opportunity Tax Credit were all pumped up in the stimulus, but set to expire this year. All of them will be extended. Price tag? $40 billion or so.

3) Unemployment insurance gets extended for 13 months: Most observers -- myself included -- thought the federal boost to unemployment insurance (which allowed jobless workers in states with high levels of unemployment to collect insurance for up to 99 weeks) would lapse. At best, there'd be another two- or three-month extension. In perhaps the most important part of the deal, there's going to be a 13-month extension at a cost of $56 billion.

4) A 2 percent cut in the payroll taxes paid by employees: This is perhaps the most unexpected part of the compromise. Rather than extending the administration's Making Work Pay tax credit for two years, which would've been worth about $60 billion a year, they've agreed to a one-year cut in the payroll taxes paid by employees, which'll raise $120 billion in 2011. That's a much stronger boost over the next year, and of course these tax cuts have a tendency to get extended ...

5) Business expensing: Remember back in September, when the White House announced a proposal to give businesses two years in which they could deduct 100 percent of the cost of new investments? That's in the deal, too. The cost of this is a bit complicated -- it's $30 billion over 10 years, but it works by offering huge tax cuts in the next two years and then paying that back over the next eight. So we're basically trying to shift business investment forward to 2011 and 2012. Over those two years, the tax breaks should be around $200 billion, though because it's a shift rather than a cut, it will have less than $200 billion in impact.

So is this a good deal? It's a lot better than I would've told you the White House was going to get if you'd asked me a week ago. There's some new stimulus in the form of the payroll-tax cut and the expensing proposals. The older stimulus programs that are getting extended -- notably the unemployment insurance and the tax credits -- probably would've expired outside of this deal. The tax cuts for income over $250,000 are a bad way to spend $100 billion or so, and the estate tax deal is really noxious.

It's bad news for the deficit, though the White House and Congress are right to make the deficit less of a priority than economic recovery. And speaking of that economic recovery? This isn't enough, and it's not well targeted. The deal amounts to the White House throwing some bad money after good. But the end result is between $200 and $300 billion more in tax breaks, tax credits and unemployment insurance than there would've been if not for this deal (I say $200-$300 billion because of the uncertainty over what would've been extended in the absence of this package). That's better than nothing -- or to be more specific, better than backsliding.

Most of the money just keeps programs that are currently in effect from expiring, so in some ways, it would be more accurate to say that this money is anti-contractionary rather than stimulative. It's important that the White House doesn't repeat the mistake it made in the original stimulus and overpromise how much this will do for the economy. What you can say about this policy is that, for the moment, it doesn't make things much worse, and it probably makes them a bit better. This is not the government making a major new commitment to the recovery. It's the government not getting in the way, and maybe doing a bit to help, the horribly slow recovery that's happening anyway.

It also, importantly, holds the extensions to two years. The tax cuts for income over $250,000 and the new estate tax rates will expire in 2012. The White House thinks that this'll be a good election issue for them, as it combines a popular, populist stance on taxes with a deficit-reduction message. Whether they're right -- and whether they'll fight in 2012 in the way people hoped they'd fight in 2010 -- remains to be seen. But on a policy level, two-year extensions of bad tax cuts are much preferable to 10-year extensions of bad tax cuts.

And finally, it's something of a hopeful sign: The White House sat in a room with Republicans and Democrats and managed to negotiate an actual compromise. The final deal includes some things that Democrats will like and some things they won't like, and it includes some things Republicans will like and some things they won't like. But it's a deal, and a better one than many -- myself included -- thought they'd reach. These tax cuts were a bit of a special legislative case, as their scheduled expiration forced action, but if you want to be optimistic, this process suggests that the next two years might be a bit more productive than some of us have been predicting.

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