July 16 (Bloomberg) -- Former Federal Reserve Chairman Alan Greenspan, whose backing of George W. Bush’s 2001 tax cuts helped persuade Congress to pass them, said lawmakers should allow the reductions to expire at the end of this year.
“They should follow the law and let them lapse,” Greenspan said in an interview on Bloomberg Television’s “Conversations with Judy Woodruff,” citing a need for the tax revenue to reduce the federal budget deficit.
The former U.S. central bank chairman also said the economy is in “a temporary slump” and would emerge with a “sluggish” 3 percent growth rate in the second half of the year. He said banks’ lending will remain constrained because financial markets are pressing them to maintain higher capital levels and predicted the Wall Street regulatory measure the Senate passed yesterday will reduce credit available for low-income consumers.
Greenspan’s comments on taxes, to be broadcast today and over the weekend, place him in the middle of an election-year struggle over extending Bush’s trillions of dollars of tax cuts.
President Barack Obama campaigned for election in 2008 on a promise of extending the Bush tax reductions for families earning up to $250,000 while eliminating the cuts for higher-income Americans, a position also embraced by most congressional Democrats. Republicans have pressed for continuing the cuts for higher-income families, arguing that a weak economy is no time for a tax increase.
House Majority Leader Steny Hoyer, a Maryland Democrat, stoked the debate with comments on June 22 that permanent extension of the middle-class tax cuts may no longer be affordable because of the growing U.S. debt burden.
Across the Board
Greenspan, in a telephone conversation after his Bloomberg TV interview was taped, said his position is that all the expiring Bush tax cuts should end, for middle-class and high-income families alike.
Ending the cuts “probably will” slow growth, Greenspan, 84, said in the TV interview. The risk posed by inaction on the deficit is greater, he said.
“Unless we start to come to grips with this long-term outlook, we are going to have major problems,” said Greenspan, who led the U.S. central bank from 1987 to 2006. “I think we misunderstand the momentum of this deficit going forward.”
Greenspan said reducing the deficit is “going to be far more difficult than anybody imagines” after “a decade of major increases in federal spending and major tax cuts.”
The economic recovery recently has shown signs of slowing with June growth in private payrolls below forecasts at 83,000, and retail sales declining for the second straight month. Federal Reserve officials trimmed their forecast for economic growth during a June meeting, according to minutes released yesterday.
The White House budget office projects the federal deficit this year will exceed $1.5 trillion, or 10.6 percent of gross domestic product, and anticipates the deficit in five years will remain as high as $751 billion, or 3.9 percent of GDP.
Greenspan has warned for months that the rising federal debt and deficits projected in future years together risk driving up long-term interest rates and choking off capital investment. In a March 26 Bloomberg TV interview, he said an increase in long-term interest rates was a “canary in the mine.”
Yields on 10-year Treasury notes have since fallen from 3.85 percent to 2.99 percent at 6:35 p.m. in New York.
Bush tax cuts that passed in 2001 and 2003 gave middle-income earners a 10 percent rate on couples’ first $14,000 in income; subsidies for college expenses, a higher child-care credit and relief from the marriage penalty. Keeping those and other reductions for the 130 million households earning less than $250,000 would cost about $300 billion a year, according to the congressional Joint Committee on Taxation.
In addition to those benefits, high-income households got reduced top marginal rates, elimination of phase-outs for some deductions and personal exemptions, and benefited the most from lower rates on dividends and capital gains. The cost of continuing the tax cuts for the most prosperous Americans would be about $55 billion for one year.
In his 2007 memoir, “The Age of Turbulence,” Greenspan attacked Bush for abandoning Republican principles on spending and deficits and expressed regret for his 2001 congressional testimony favoring the tax cuts, recounting how former Treasury Secretary Robert Rubin and Democratic Senator Kent Conrad of North Dakota asked him to hold off on an endorsement.
“It turned out that Conrad and Rubin were right,” Greenspan wrote in the memoir.
Addressing current economic conditions in the Bloomberg Television interview, Greenspan said the U.S. is in the midst of “the typical pause usually associated with recovery.” When GDP growth for the second quarter is reported, it will likely be at a 2.5 percent rate, he said.
“There is no evidence that there is a big pickup coming,” Greenspan said. “We should be in the area maybe of 3 percent growth for the rest of this year.”
Banks are likely to maintain tight lending policies until their capital levels rise “a couple of percentage points more than it is at least.”
“The market right now is requiring more than they actually have,” Greenspan said. “Right now our financial institutions are undercapitalized.”
He criticized the financial regulatory overhaul the Senate passed, saying banks would cut back on consumer lending in response to new rules.
“There are a lot of loans made currently by the banking system which are marginal,” Greenspan said. “These loans will be eliminated and those marginal loans are largely the lower credit risks, lower income groups, and people who before would be going to pawnbrokers. I do not think that is necessarily a good trend.”
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