These Tax Cut Plans Won't Do the Trick

Note to Congress: Getting cash to consumers is only half the battle. Getting them to spend it is the hard part

By Howard Gleckman

Last week I took a look at the business tax breaks that are a key element of the economic stimulus plan slowly working its way through Congress. My conclusion: They wouldn't do much to jump-start an economy that, more than anything else, needs to get consumers buying again (see BW Online, 10/30/01, "This Stimulus Plan Pushes the Wrong Buttons").

So what about the tax breaks targeted to individuals? Will they, as promised, put enough dough in people's pockets to get them back to the malls? Alas, like the business incentives, tax breaks aimed at boosting consumption may also turn out to be far more sizzle than steak.

No question, tax cuts will boost consumers' income, but it's unclear how much of that money they'll spend. A survey by the University of Michigan reports that less than 20% of the rebates generated by last spring's tax cut has been spent. Folks are either putting the rest in the bank or using it to pay off credit cards, which registers as a form of saving.


  True, this summer's checks went to relatively well-paid workers. And the rebates being debated now will be targeted to lower-income people who will be more likely to spend the extra cash. The House bill passed on Oct. 24 would give almost $14 billion to 30 million people who work but don't earn enough to pay income taxes. Singles would get $300 and couples $600.

But the IRS says it can't get these tax cuts into the hands of consumers until well into next year. That means the money won't arrive until long after the holiday buying season and -- if most economists are to be believed -- not before the economy begins to rebound on its own.

Then there's the GOP plan to accelerate cuts in tax rates that were included in last spring's tax bill but aren't scheduled to kick in until 2004 and 2006. It would take just a few weeks to change withholding tables and get the money into workers' hands. But more than half would go to the highest-earning 1% of taxpayers -- the very people who are most likely to save, rather than spend, the windfall.


  Congress is also likely to boost unemployment benefits and provide new government subsidies to help laid-off workers keep their health insurance. Both ideas will help get a safety net under those who have lost jobs in recent months. But neither is likely to provide a big boost to the economy. One reason: bad timing. Now, laid-off workers get 26 weeks of benefits. Lawmakers want to give them 13 more weeks. But those who lost jobs as a result of September 11 wouldn't get extra benefits until March at the earliest.

What else could Congress do to get people buying again? One idea that has gained currency in recent days is a sales-tax holiday. Under one version, states wouldn't charge sales tax for 10 days during the height of the holiday season. The feds would reimburse the states for the roughly $6.5 billion they would lose.

At first glance, the idea looks great. It would produce an average 6% cut in the costs of goods -- perhaps enough to get people back to the stores. And, of course, it's all about new consumption. But the notion has at least two big problems. First, it's unlikely that Congress and the states could act fast enough to make it happen by December. Second, a temporary sales-tax holiday will probably change only the timing of purchases, not increase overall spending.


  Think of it like this: If you know that something is going to be on sale, say, during Dec. 1-15, you'll make sure to buy in that time frame. But on Dec. 16, after the rush to take advantage of the tax holiday, sales will plummet. And, when the smoke clears, the overall economy will be pretty much in the same place.

Here's another idea floating around: a temporary cut in Social Security payroll taxes. It would get money into the hands of workers right away, and it would go to those likely to spend. But draining money from the government's Social Security account would generate so much confusion and controversy that, on balance, it could actually damage consumer confidence.

And right now, restoring consumer confidence is the single most important step Washington can take. That's never easy in a slowdown, and it's especially hard when you add terrorism to the mix. Let's face it, fiscal policy has never been a very good tool for fine-tuning the economy. And we're getting yet another reminder of why that's so.

Gleckman is a senior correspondent in BusinessWeek's Washington bureau. Follow his views every Tuesday in Washington Watch, only on BusinessWeek Online

Edited by Douglas Harbrecht

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