Fiscal Fitness

A winning agenda for a political party must simultaneously satisfy the requirements of economic effectiveness and political success. Ronald Reagan had such an agenda in the 1980s. Subsequent Republican presidential candidates have not. The opportunity now is great. Far from having a free hand after reelection, President Obama is constrained by the same economic and political realities as everyone else. This is why his first act of 2013 was to sign into law a tax code in which the top rate on labor income is about twice the rate on property income, disappointing the dominant faction of his own party.

The four basic principles of successful American political economy may be summarized simply:

1. Current peacetime government consumption of goods and services should be funded by current taxation, not money creation—thus limiting peacetime government borrowing to an amount equal to government-owned investments of the same or lesser duration. This principle was first enunciated and implemented under President George Washington.

2. Current consumption of true public goods (such as national defense and administration of justice) should be funded with an income tax levied about equally on labor and property income. This principle was first implemented under Abraham Lincoln.

3. More narrowly targeted “quasi-public” goods, which benefit many but not all citizens, should have dedicated funding. Social benefits for specified individuals (Social Security, Medicare, and Medicaid, primarily) should be financed by payroll taxes on individuals, not by income or property taxes. This principle was first applied under Franklin D. Roosevelt at the insistence of his Treasury secretary, Henry Morgenthau.

The counterpart to this policy is that subsidies to property owners (e.g., tax-advantaged savings accounts and product, corporate, and banking subsidies) should be financed by taxes on property income (such as interest, dividends, rents, or capital gains), not payroll or income taxes.

4. Government’s size and methods should be strictly limited in order not to displace private jobs, or cause general unemployment or disinvestment in people and property. This was attempted by Ronald Reagan (with its success limited by factors we will describe).