Entitlements and Tax Cuts and Income Inequality

November 28, 2011

Michael Barone has a thought-provoking piece noting that Supercommittee Democrats were out to lessen income inequality through higher tax rates on high-income earners but that Republicans failed to make the case that tax reform proposals (broader bases and lower rates) might achieve that end as well. Barone draws on a report from Rep. Paul Ryan’s office, looking at income trends since 1979:

It turns out, Ryan reports, that federal income taxes (including the refundable Earned Income Tax Credit) actually decreased income inequality slightly between 1979 and 2007, while the federal payroll taxes that supposedly fund Social Security and Medicare slightly increased income inequality. That’s despite the fact that income tax rates are lower than in 1979 and payroll taxes higher.

Perhaps even more surprising, federal transfer payments have done much more to increase income inequality than federal taxes. That’s because, in Ryan’s words, “the distribution of government transfers has moved away from households in the lower part of the income scale. For instance, in 1979, households in the lowest income quintile received 54 percent of all transfer payments. In 2007, those households received just 36 percent of transfers.”

In effect, Social Security and Medicare have been transferring money from low-earning young people (who don’t pay income but are hit by the payroll tax) to increasingly affluent old people.

The Democrats, perhaps following the polls and focus groups, have been protecting these entitlement programs that have done more to increase income inequality than the Reagan and Bush tax cuts put together.

Barone suggests the best way to achieve the Democrats’ stated goal is to limit transfer payment increases to affluent households, limit deductions for affluent households, and avoid tax increases that will limit future growth.

Read the full piece here.

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