House Budget Resolution Aims to Balance Tax Cut and Spending Reduction Goals

The House Budget Committee has released a budget resolution that specifies large reductions in both taxes and spending over the next decade, paving the way to extend the expiring provisions of the TaxA tax is a mandatory payment or charge collected by local, state, and national governments from individuals or businesses to cover the costs of general government services, goods, and activities. Cuts and Jobs Act (TCJA) and potentially cut other taxes. Under the reconciliation process that Republicans intend to use, only Republican votes are needed—but essentially all Republican votes will be needed given their slim majority.

The House budget resolution caps the deficit increase resulting from tax cuts at $4.5 trillion over the next decade and requires a minimum of $1.2 trillion in spending cuts. Additionally, it sets as a goal to reduce mandatory spending by $2 trillion over the next decade and if not accomplished the cap on tax cuts would be reduced commensurately. The result would be an increase in the budget deficit between $2.5 trillion and $3.3 trillion over the budget window before accounting for impacts on economic growth.

The budget resolution directs certain committees to carry out the spending reductions, mainly the Energy and Commerce Committee ($880 billion), the Education and Workforce Committee ($330 billion), and the Agriculture Committee ($230 billion). Programs likely to be cut include Medicaid, student loan relief, and the Supplemental Nutrition Assistance Program. It allows the Judiciary, Armed Services, and Homeland Security Committees to increase spending by $300 billion, likely to fund immigration and defense priorities.

House lawmakers have set a goal for real economic growth of 2.6 percent annually. That will not be achievable without concerted efforts to focus strictly on the most pro-growth reforms, not only related to taxes and spending but to regulations and other areas of policymaking. In the tax space that points to reforms with the largest “bang for the buck” (i.e., those that generate the most long-run economic growth per dollar of revenue loss, such as expensing for capital investment and simplifying reforms for taxpayers).

Tying spending reform to this year’s tax reform effort moves the package in a fiscally responsible and pro-growth direction, and there are several good reasons to do so.

First, spending growth has far outpaced inflationInflation is when the general price of goods and services increases across the economy, reducing the purchasing power of a currency and the value of certain assets. The same paycheck covers less goods, services, and bills. It is sometimes referred to as a “hidden tax,” as it leaves taxpayers less well-off due to higher costs and “bracket creep,” while increasing the government’s spending power. in recent years and is scheduled to continue growing, exceeding the highest sustained levels in the country’s history. According to the Congressional Budget Office (CBO), spending under current law will exceed 23 percent of GDP this year and 24 percent by 2032—levels that heretofore were only reached temporarily during major crises, namely World War II, the 2008-9 financial meltdown, and the 2020 worldwide pandemic. Mandatory spending and interest on the debt are the fastest growing parts of the budget, together reaching more than 19 percent of GDP by 2033—more than the entire federal budget during the late 1990s and early 2000s, the last time the federal government ran surpluses.

Second, spending cuts are the least economically harmful way to reduce deficits. As we have demonstrated, while tariffs can raise substantial amounts of revenue, they come with many downsides. Tariffs impose burdensome new taxes on US importers and exporters through retaliatory trade wars and lead to less efficient global supply chains and unstable international relations, all translating into some combination of higher costs, less quality, and less variety for American consumers and businesses. Raising other taxes, particularly those that increase effective marginal tax rates on income, generally suppresses economic growth by reducing incentives to work, save, and invest.

In contrast, spending cuts, particularly reductions in transfer payments and social spending, have a relatively small impact on economic growth, according to many studies, and even defense spending impacts are small compared to income taxes. Consistent with these results, federal investment spending delivers only about half the economic returns of private sector investments, according to the CBO. Many of the studies examining how deficits “crowd-out” private investment distinguish between tax and spending changes, finding more detrimental effects of deficits caused by spending changes.

Also, spending cuts generally lead to a more sustained, successful reduction in debt. Economists have produced a large body of literature studying debt and fiscal consolidation episodes in the US and various countries over the last few decades. The studies indicate the most successful and effective fiscal consolidations, defined as most sustainably reducing debt with the least harm to the economy, focus on spending reductions, especially reductions in transfer payments or social spending.

For example, research by Alberto Alesina and his co-authors covering 16 OECD countries over a 30-year period indicates cuts to transfer payments have a near-zero impact on economic growth while cuts to government investment and other types of spending modestly reduce economic growth. In contrast, most fiscal reforms based on tax increases have been followed by a “prolonged and deep recession.”

Examining fiscal adjustments from a sample of 26 countries from 1995 to 2018, a Mercatus Center analysis found that successful consolidations, defined as one where the debt-to-GDP ratio declines by at least 5 percentage points in the three years after the plan is implemented, were more spending-focused than tax-focused. Among the successful fiscal consolidations, on average, 60 percent of the deficit reduction came from spending cuts, whereas among the unsuccessful fiscal consolidations, 74 percent of the deficit reduction came from tax increases.

Third, a substantial amount of spending now runs through the tax code in the form of refundable tax credits and other tax preferences that deserve scrutiny and reform. The Treasury Department estimates refundable tax credits will reduce federal revenue by about $3.6 trillion over the next decade, including about $1.2 trillion from several green energy tax credits, many of which were extended and expanded as part of the Inflation Reduction Act, and about $1 trillion from the Affordable Care Act’s health insurance premium assistance tax creditA tax credit is a provision that reduces a taxpayer’s final tax bill, dollar-for-dollar. A tax credit differs from deductions and exemptions, which reduce taxable income, rather than the taxpayer’s tax bill directly. . The tax code contains dozens of other tax preferences beyond refundable tax credits that could be tapped for trillions more in budgetary savings, including the exclusion for employer-sponsored health insurance, itemized deductions for state and local taxes and mortgage interest, the credit for low-income housing investments, and the exemption of credit union income.

Note that curtailing tax preferences would fall within the $4.5 trillion instruction given to the House Ways and Means CommitteeThe Committee on Ways and Means, more commonly referred to as the House Ways and Means Committee, is one of 29 U.S. House of Representative committees and is the chief tax-writing committee in the U.S. The House Ways and Means Committee has jurisdiction over all bills relating to taxes and other revenue generation, as well as spending programs like Social Security, Medicare, and unemployment insurance, among others. , opening the possibility for more effective, pro-growth tax cuts.

In sum, the structure of the House Budget Committee’s budget resolution would allow, but not necessarily guarantee, important pro-growth budgetary reforms to go forward, including extension of much if not all the TCJA. The details will matter, but the framework of the House budget resolution should encourage policymakers to pursue reforms that improve economic growth.

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