Should Congress increase taxes to fight inflation?

one in monday wall street journal Column (paywall), President Biden urged Congress would help fight inflation by raising tax rates on the very wealthy and using the money to reduce the deficit. Does that strategy matter in today’s economic climate?

At least in theory, raising taxes could reduce inflation. But not necessarily the reason Biden suggested. The tax hike implemented this year will not have an immediate impact on government borrowing. But they can slow inflation Reducing consumer demand for goods and services.

big warning

However, there are two big caveats. While Biden is focusing tax increases on the wealthy and corporations to narrow the deficit, the most direct way to use taxes to slow inflation would be to increase fees on low- and middle-income households, whose Spending habits most sensitive to changes in income, The trouble is that this will put the burden of fighting inflation on the most vulnerable. Besides, this idea is not going anywhere in the months before the Congress election.

Then there is the matter of timing. Tax hikes may be good policy today, while the economy is still heating up and inflation remains the primary concern. But circumstances can change very quickly. An inflation-busting tax hike later this year or in 2023 could be exactly the wrong drug — once the Federal Reserve Board hikes interest rates to slow growth or throw the economy into recession.

If Congress wants to use tax policy to slow consumer demand, it must do so now. And it needs to target the changes properly. Since it probably won’t do anything and since raising taxes today doesn’t make sense to lower them again in just a few months, perhaps it should be left to the Fed to battle inflation.

Who will respond to the tax hike?

In fairness, Biden’s magazine The op-ed acknowledged that “the Federal Reserve has a primary responsibility to control inflation.” But when it comes to tax policy, he reiterated previous requests for more IRS funding to collect unpaid taxes and for international tax reform. And then he said this: “We must end the outrageous unfairness in the tax code that allows a billionaire to pay lower rates than a teacher or firefighter.”

It is always strange to leave the fight for inflation to the politicians. While Democrats would strongly oppose any attempt to raise taxes on low- and middle-income households, they are the ones most likely to reduce the cost of every dollar of additional taxes they pay. This may be especially true because Many of these families spent savings They gathered after receiving government payments during the pandemic.

High-income households are less responsive to tax increases and may not reduce their spending as much, although a fall in post-tax income will still change their behavior somewhat. The effects may be particularly muted today because these consumers are still sitting on swathes of cash, despite the recent stock market crash.

What about raising taxes on businesses? Remember, today’s inflation is caused by a mix of high demand and unusually short supply of goods. It is hard to see how raising taxes on goods producers would increase the supply of those products.

big problem ahead

Biden is correct that tax increases could slow the growth of the federal debt, assuming the government doesn’t spend new revenue. In its latest estimates, the Congressional Budget Office estimates the federal Government to pay $8 trillion in interest Over the next 10 years, the result is both rising interest rates and rising debt. But the short-term fiscal impact of any tax hike is likely at best.

America may face more urgent problems than long-term debt. Treasury Secretary Janet Yellen, among others, is warning that the world economy could slip into recession, Due to a mix of factors including steep and rising energy prices, tighter monetary policy, ongoing supply chain problems around the world, COVID-19-related lockdowns in China and Russia’s invasion of Ukraine. These global conditions are far beyond the reach of US tax policy.

This brings us back to the political challenges. Biden and Hill’s Democratic leadership are eager to bring together a congressional majority to raise taxes on the wealthy and corporations. But the pace remains slow.

And few legislators from any party are willing to raise taxes on low- and middle-income families. Just ask Sen. Rick Scott (R-FL) who suggested raising taxes on families that currently pay no federal income tax. Gleeful Democrats want to turn his words into campaign ads. And his idea received the coldest of cold shoulders from his Senate Republican colleagues.

We’re left with it: an increase in personal income tax on working families may reduce inflation but add to the hardships of those already struggling. And Biden has opposed any tax increases on households earning $400,000 or less. Even if Congress can pull it off, the timing is likely to be wrong.

Maybe the right answer is simple: Given heavy geopolitical and economic uncertainties and a slow-reaction Congress, the hard work of responding to high inflation should be left to the Fed, not tax policy.