Congressional Democrats Begin Call To Extend Payroll Tax Cut

Recently, one of the few things both parties in Washington seemed to agree about was allowing the current payroll tax cut to expire on schedule in 2013. The payroll tax was reduced by two percentage points for workers and the self-employed as part of the tax deal at the end of 2011.

The White House has signaled disinterest in the tax cut’s fate; House Minority Leader Nancy Pelosi (D-CA) and Treasury Secretary Tim Geithner are both on record in favor of expiration. Even the AARP, the country’s leading advocacy group for seniors, piled on, arguing that another extension would undermine Social Security.

So far, the only major voice pushing the other way has been former economic advisor to the White House Larry Summers. But now it looks like he may have some backing in Congress:

Some Democrats in Congress are seeking to include an extension of the $120bn payroll tax cut in negotiations over the looming “fiscal cliff”, shaking what had appeared to be a bipartisan consensus to allow the measure to expire as planned at the end of the year. The move could complicate the budget talks due to begin after the November presidential election and alarm rating agencies – since the sunset of the payroll tax measure is the only big provision that both parties seem comfortable directing towards deficit reduction. […]

Chris Van Hollen, the top Democrat on the budget committee in the House of Representatives, told C-SPAN television at the weekend: “I don’t think anyone thinks we should permanently extend the payroll tax cut but, given the situation we’re in, I don’t think that should be taken off the table.”

Absent a sufficiently stimulative replacement that has clear political viability, there are reasons to heed Van Hollen’s suggestion. For one, payroll taxes are regressive and fall harder on those lower down the income ladder, meaning the increase would fall on millions of already hard-pressed working Americans. For that reason, JPMorgan recently downgraded its GDP growth forecast for next year on the assumption the expiration will go through. Its conclusion was that an extension would help the economy more than an expiration would hurt it.

The Economic Policy Institute also estimated the holiday’s expiration would deliver one of the fiscal cliff’s biggest hits to economic growth next year. In fact, EPI’s analysis found it does more damage to the economy per dollar than to the budget. For most parts of the fiscal cliff, the opposite was the case. So by keeping some parts of the fiscal cliff while canceling others — such as the payroll tax holiday expiration — damage to both the economy and the budget could be minimized.

EPI acknowledged that the payroll tax cut as it stands is not optimal stimulus. But it added, “optimal policy responses are hard to come by these days.”

The tax cut’s threat to Social Security’s future is also overstated. The 2011 payroll tax holiday specifically required losses to the program’s trust fund be repaid out of general revenue. An extension would likely include similar language.