Chris VanHollen

Rep. Chris VanHollen (D-MD)

After giving up the payroll tax cut for dead, a few Democrats have tentatively returned to reanimate the policy, arguing that the economy could benefit from another year of fiscal accommodation. But the approach is so hedged and conflicted, that I don’t see it as a game changer.

But Democrats on Capitol Hill are showing signs of balking at the notion that the payroll tax cut should be sacrificed to help solve the U.S.’s debt problems. Their top objective still remains to force Republicans to accept the expiration of Bush income tax cuts for the rich, while extending middle-class income tax cuts.

“[The payroll tax cut] could potentially be in the mix, just not at the top of the priority list,” said one Democratic aide in the Senate. “There’s not necessarily a big push at this time to extend it . . . in the Senate.”

Chris Van Hollen, the top Democrat on the budget committee in the House of Representatives, told C-SPAN television at the weekend: “I don’t think anyone thinks we should permanently extend the payroll tax cut but, given the situation we’re in, I don’t think that should be taken off the table.”

The substance for this is an unnamed aide who only goes as far as saying it “could potentially be in the mix,” and Chris Van Hollen’s comments on C-SPAN. Van Hollen, as the House Budget Committee ranking member, has value for understanding how the caucus will move as a whole. But even his statement is more about not taking the payroll tax cut off the table, rather than advancing it as a priority.

I ultimately think the payroll tax cut still dies, mainly because it’s a payroll tax cut, and as such is tied to the Social Security trust fund. There’s no specific reason why this has to be so; you could design a refundable tax credit at 2% of income folded into withholding that comes directly out of general revenue, rather than indirectly with the payroll tax cut. That was, in general terms, how the Making Work Pay tax cut from the Recovery Act worked.

But the macroeconomic impact of the payroll tax cut expiring is much greater than the Bush tax cuts expiring, for example. That’s particularly true at the high end. As Laura Tyson and Owen Zidar noted last week, tax cuts at the high end of the income scale do not actually increase economic growth or employment, while broad tax cuts for the lower end of the scale do stimulate the economy.

Lower-income taxpayers spend a higher share of their tax cuts. Many of these taxpayers often have more difficulty borrowing money and tapping into their housing wealth than higher-income individuals. These demand-side forces explain why consumption goes up much more after tax cuts for the bottom 95 percent than after equivalently sized cuts for the top 5 percent. An increase in consumption, which still accounts for about 70 percent of G.D.P., fuels increases in demand, and that leads companies to create more jobs. In survey after survey, businesses confirm that changes in demand are the primary determinant of their employment decisions [...]

Over all, our research shows that tax cuts for the bottom 95 percent are much more effective than tax cuts for the top 5 percent at increasing job creation in the subsequent two years.

Democrats can choose to let go the payroll tax cut as a trade-off, so they can chase the white whale of increasing taxes on the rich. But they do so at a cost to the near-term economy, which in a time of still-high unemployment doesn’t make a ton of sense.