My Disagreement with John Tamny on SALT Deductions

In a recent essay, John Tamny, at RealClearMarkets got rather SALTy. Worth reading.

John (whom I know and like, and have hosted to give a talk to my big undergrad “Intro to Capitalism” class at Duke) is taking issue with the claims I made about state and local tax deductions (SALT) here, at AIER’s The Daily Economy.

Now, John is a fine, smart man. But we really do disagree about this.  Consider two points:

First, John claims that the most important policy change needed is a substantial cut in federal spending.  He’s right about that, of course. But for some reason, he equates cutting taxes with cutting spending.

As I have argued for years, starting when I sometimes got little policy pieces discussed by Rush Limbaugh, US policy is “DAFT” — Deficits Are Future Taxes. Since we are not cutting spending, a SALT deduction is a tax increase. The SALT deduction increases the deficit; deficits are future taxes, so SALT deductions are straightforward tax increases.

I could see Tamny’s point if there were a balanced budget requirement at the federal level. But since there isn’t, SALT is a tax increase on everyone else, because we have to pay for the increased deficit.

Yes, the “everyone else” includes people in the future, but that’s even worse! Generations yet unborn are paying higher expected taxes so that Californians can subsidize state spending with lower federal taxes. There is simply no connection between a SALT deduction and a decrease in federal spending, but SALT deductions enable state governments to spend more, at the expense of the entire nation. SALT deductions enable spending increases at the state level, precisely because states have balanced budget requirements but the federal government does not.

Second, I agree completely with Tamny’s point that California is wealthy despite its high government spending. But that’s all the more reason to make California taxpayers bear the full burden of having legislators light their solar-powered cigars with hundred dollar bills. If Golden State citizens actually had to pay for the government they vote for, they might vote smarter. With the SALT deduction, California can slip by and keep spending, because a big part of their tax revenue is being subsidized by the hardworking citizens of Texas, and by future generations of taxpayers that are already burdened with having to pay John Tamny’s Social Security.

One more thing: Tamny called me a Keynesian.  Now,  Keynes drank scotch. I drink scotch. That doesn’t make me a Keynesian.  Keynes wanted to increase government spending; I want to decrease it. 

The fact is that deficits are future taxes, and SALT increases deficits. Given that the current debt is approaching $40 trillion (well over $100,000 per US citizen!), increasing the deficit is moving the already egregious debt in the wrong direction. How much depends on your assumptions about growth, and on the exact form of the legislation. But according to the Committee for a Responsible Federal Budget, raising the cap to only $20,000 would add between $150 and $200 billion over the next decade. 

And that’s the best case scenario. If the cap structure now in the bill ($15,000 single/$30,000 joint filers) goes through, the cost is half a trillion.  And if the real hawks like John Tamny get their way, with the cap going up to $100,000 or more, the loss in tax revenue could top a trillion in the next ten years.

These costs might be tolerable if there were some benefit. But all the cost savings go to the states that have irresponsible tax and spending policies. A recent study by David Ditch, of the Economic Policy Innovation Center, makes the case starkly: California’s state spending is nearly double the combined state budgets of Texas and Florida. That’s in spite of the fact that Texas and Florida have 15 million more people. California, which does have (more or less) a balanced budget requirement, can only get away with that kind of spending because citizens in Texas and Florida are making up for the federal tax losses!

While it’s hard to give an exact estimate, here is a table of the top five states, in terms of targeted benefits from the increased SALT deductions in the One Big Beautiful Bill Act (source: CRS and Tax Policy Center):

Top Five States Most Affected by SALT Deduction Limits

Those are not Republican states; in fact, there is not even one Republican Senator from any of the five states that would benefit most.  Why do people want to take money from honest people who earn it in Red states, and use it to fund government spending in the Heart of Blueness?

All this means that increasing the SALT deductions has two effects, both bad:

1. There will be a substantial increase in the federal deficit, and a ballooning of the debt, all of which amounts to a tax increase (because DAFT). Raising SALT deductions is a big tax increase, on other states and on future generations. 
2. SALT excuses and covers for profligate and wasteful state government. The five biggest beneficiary states, disproportionately to the total benefit, subsidize wasteful and intrusive government. People are leaving California, New York, and the other high tax states. But not as fast as they would be moving if states bore the full costs of their bad decisions and spendthrift policies.  

SALT defenders are living in the past. There is a long and embarrassing history of attempts to “starve the beast” by cutting taxes without cutting spending.  But the US federal government, unlike the states (even California) now completely disregards any connection between revenues and spending.

The beast doesn’t starve; we never cut spending. And if we impose SALT deductions, we are actually raising taxes on most Americans.