You have probably already heard of Taxmageddon, the $494 billion tax increase set to hit America’s already overburdened taxpayers in January 2013. If you haven’t, check out this informative website provided by the Heritage Foundation.
Taxmageddon is a combination of expiring Bush-era tax cuts, expiring payroll tax cuts and new, incoming Obamacare taxes. Together they will create the largest single-year tax increase in American history, and very likely the largest tax increase ever created in the entire world.
Taxmageddon will, of course, wreak havoc on our already fragile economy. It is so massive, in fact, that many standard models used by economists to estimate changes in taxes are inadequately prepared for it. Even anecdotally it is hard to find comparable macroeconomic events. The closest we get in modern history is the disastrous austerity program that hit the Swedish economy in 1995-98. In a desperate attempt to close a gaping hole in the budget, the Swedish government took away three percent of GDP per year, three years in a row. As a result, ten percent of the Swedish work force was left idle, household incomes stagnated for almost a decade and the standard of living fell from mid-pack European levels to that of Mexico.
The effect of Taxmageddon on the American economy is roughly comparable to half of the cumulative effect of the Swedish austerity disaster. However, although Taxmageddon itself is smaller than nine percent of GDP, our economy has a different structure that magnifies domestic policy changes more drastically than in exports-dependent European economies. Therefore, we can expect a larger negative effect per dollar in new taxes.
To put some perspective on what this massive tax increase would mean, let us break it down to Wyoming size. According to the Heritage Foundation, Wyoming taxpayers would face a $836.5 million tax increase, approximately distributed as follows:
- Expiring Bush-era tax rates: $288 million;
- Expiring payroll tax cuts: $216 million;
- New Obamacare taxes: $332.5 million.
Obama has indicated that he might want to see the Bush-era tax cuts extended for most taxpayers, but don’t hold your breath on that until there is a bill with his signature on it. And even if Congress and the President reached a deal on that part of Taxmageddon, the remaining parts are bad enough.
The effects of these tax increases on Wyoming are a bit uncertain but nevertheless drastic. Using Wyoming Liberty Group’s Competitive General Equilibrium model for the Wyoming economy, we estimate that:
- Ending the Bush-era income tax rates could cost the Wyoming economy 13,100 private-sector jobs;
- The payroll tax hike could cost 1,400 private-sector jobs in 2014.
The very high number for the Bush-era tax rates should be taken with a grain of salt. The number is an optimal solution and thus meets rigorous analytical standards, but it is not based on a tax-bracket specific estimate. In reality, the bulk of the tax increase would fall on income brackets with a lower propensity to consume than the average consumer. This means, in turn, that the reduction in consumer spending is not quite as aggressive as illustrated here.
It is also important to keep in mind that our estimate of job losses is partly affected by what taxes are in other states. Our model operates under the assumption that taxes remain unchanged everywhere else, but if Taxmageddon hits, it won’t spare any state. Therefore, we can assume tax increases on par with the one estimated here in every other state. As a result, there will be no job migration due to higher income taxes. This further reduces the Wyoming-specific job loss from the tax increase.
A similar reasoning applies to the Obamacare tax. Technically, it is a tax increase on the highest incomes ($250,000 and up); effectively, it would work as a seven-percent extra income tax on Wyomingites in that bracket. Its short-term negative effect on the economy is smaller than for the expiration of the Bush-era tax rates, primarily because of the lower propensity to consume in this income bracket. Long-term, however, higher taxes on high incomes means less savings deposits and thus smaller access to risk capital in Wyoming, a fact that over time will hamper private-sector job growth.
Another aspect of the Obamacare tax is that it is eerily reminiscent of the Alternative Minimum Tax (AMT). When first introduced, the AMT was designed to make sure a very small group of very wealthy people could not reduce their tax burden to zero. Today, the AMT is a middle-class problem. It is more than likely that the Obamacare taxes will go the same way.
Overall, we have to take into account the general drop in nationwide economic activity that comes from this magnitude of a tax hike. Due to the aforementioned nature of Taxmageddon it is somewhat difficult to exactly pinpoint the overall job losses from the event. If the Swedish experience is any indicator of how an economy responds to a tax disaster, we could be looking at a total job loss for Wyoming of 15-20,000 private sector jobs. This is assuming that the Bush-era tax rates expire, that the payroll tax cuts expire, that the Obamacare tax kicks in and that there is a significant downturn in the national economy as a result.
Taxmageddon is precisely what the name says: an Armageddon brought upon us by one of the largest tax increases in the history of mankind. It would be a disaster for the American economy and, of course, for Wyoming. Even if only parts of it hit us, the repercussions would be felt for years to come.
There is never a good time to raise taxes. But some times are worse than others. This time – 2012 – is particularly bad.