Economic amnesia

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Sometimes you need to be reminded of where you came from to understand where you're going. The Club for Growth is giving one senator such a reminder today with the launch of an ad campaign designed to send a simple message: Higher taxes are not the answer for Social Security reform.

Sen. Lindsey Graham of South Carolina came to the Senate with a strong record of cutting taxes to support increased freedom and economic growth. But in the debate on Social Security reform, Mr. Graham has suffered a sort of economic amnesia. He is proposing a large tax increase, in the form of raising the income level subject to payroll taxes, in order to finance the transition to personal retirement accounts. Such a tax increase is not only unnecessary, but it would be devastating to our economy.

The president's proposal to allow younger workers to divert a portion of their payroll taxes to personally owned investment accounts would, temporarily, increase the already impending gap between promised benefits and projected tax revenue. But over time, the power of compounded interest (the greatest power in the world, according to Einstein) will allow ever-greater portions of workers' retirement benefits to come from their accumulated savings. The government's obligation will diminish accordingly, the funding shortfall will shrink, and, unlike the current system, a reformed Social Security system would become permanently solvent. The temporary funding of $1 trillion-$3 trillion is a bargain because it wipes out the $11 trillion shortfall of the current system.

The Graham proposal to finance this temporary shortfall with a large tax increase reflects a lack of understanding about the economic and fiscal strength of the United States and our ability to borrow the necessary transition financing without adverse economic effects. The senator also fails to consider that raising taxes will dramatically impede economic growth and add a substantial new burden to middle-class taxpayers.

Recent, strong economic growth, ignited by the 2003 Bush tax cuts, has fueled substantial increases in federal revenue, with receipts estimated to rise by nearly 7 percent a year from 2005 to 2010. The rise in federal receipts, combined with recent efforts by the Bush administration to restrain the growth in federal spending, have strengthened our fiscal situation significantly.

Our annual budget deficits, economically manageable now, are shrinking as a share of the economy. The fiscal 2005 federal deficit came in lower than expected at 3.5 percent of the gross domestic product (GDP), only the 10th largest in the last 25 years. Thanks to a growing economy, deficits are expected to continue declining as a share of GDP to a level well below the 40-year historical average of 2.3 percent by 2010.

Our total federal government debt is also manageable and projected to decline, relative to GDP. Well below its post war high, our debt-to-GDP ratio is already lower than most Western countries and much lower than Japan's. Historically low U.S. interest rates confirm our capital markets' capacity to finance significant borrowing.

Clearly, we can afford to borrow the Social Security reform transition shortfall. What we can't afford is Mr. Graham's tax increase.

The Graham proposal would raise the cap on income subject to payroll taxes to $150,000, with an additional "surcharge," i.e. tax, of 2 percent on incomes over $250,000. Tax increases of this kind would do nothing to reform Social Security and would have a devastating impact on our economy and the fiscal progress we've made. Analysis by the Heritage Foundation shows that raising the wage cap would result in a direct tax increase of thousands of dollars for 7 million American families.

Mr. Graham's tax increase would wipe out all the savings from the Bush tax cuts, and then some, for millions of Americans. Workers subject to his proposal would see their marginal-wage tax rate go up by 12.4 percentage points, including both the worker and employer share. Given their current average marginal rate of about 25 percent, this amounts to a whopping 50 percent tax increase. This huge increase in the cost of labor, and its corresponding reduction in the incentive to work, can only lead to fewer jobs and slower economic growth.

We at the Club for Growth are wildly enthusiastic about giving all American workers the opportunity to accumulate wealth through a Social Security program reformed to include personal retirement accounts. But we don't want an unnecessary, economically devastating, Graham-style tax increase as part of the package.

This week, we began an advertising campaign in South Carolina to remind Mr. Graham of the principles of ownership and economic freedom he's fought for in the past. Rather than turning his back on those principles by raising taxes, he should embrace them once again by supporting economically and fiscally sound Social Security reform.

The Republican Party became the majority party because of its support for ownership and freedom from oppressive taxes that undermine economic opportunity. As we move forward in the debate on Social Security, Republicans should remember that.

Pat Toomey is the president and CEO of the Club for Growth. He served as a Pennsylvania congressman for three terms (1999-January 2005).