Conservative economist Martin Feldstein spoke up Monday during a public meeting with President Obama at the White House, urging him to extend all tax cuts passed by Congress during the Bush administration and set to expire at the end of the year.
Obama has said he wants to allow the tax cuts for individuals earning $200,000 a year and families earning $250,000 to expire, while extending the cuts for all other brackets.
But during a meeting with Obama and an advisory group of business, labor and economist leaders, Feldstein said he was worried about what signal that would send, according to a pool reporter who attended the meeting.
“They have to pay slightly higher taxes,” Obama said of those with higher incomes, according to the report.*
“This is something we’re going to have to wrestle with as a society,” he added.
After the meeting in the State Dining Room had ended, Obama spoke with Feldstein — a top economic adviser to President Ronald Reagan who served as president of the National Bureau of Economic Research from 1978 to 2008 — as well as Treasury Secretary Tim Geithner and National Economic Council Chairman Larry Summers.
Obama told reporters on his way out of the room that he enjoyed the back and forth with Feldstein.
“It was a robust discussion,” Obama said. “Usually sometimes everybody feels like they’ve got to follow up on the 2 minutes they’ve been allocated.”
Congressional Democratic leaders left town last week without bringing the tax cuts to a vote, and will have only a few weeks to extend them when they return after the Nov. 2 midterm elections.
Here is a transcript of the extended exchange between Obama, Feldstein, William Donaldson, former SEC chairman, economist Laura D’Andrea Tyson, and former Federal Reserve Board chairman Paul Volcker.
THE PRESIDENT: Thank you. All my economic team — Tim, Larry, now Austan as the head of the CEA, my Cabinet Secretaries at Commerce and Education, Labor — we spend a big chunk of each week and have for the last two years trying to optimize the nation’s economic performance and the recovery in light of a couple of things that have already been mentioned. Obviously the severity of the downturn. Historically financial crises brink about recessions that are deeper and longer lasting than the normal business-cycle recessions. There is a sense on the part of consumers that they have to start saving more and cutting back on their debt levels, and that means that the prospect of a consumer-driven V-shaped recovery is less likely.
And we’re in a fiscal environment in which we were already in debt, which means that some of the traditional tools that we have are more difficult to apply. We essentially have to apply the accelerator and the brakes at the same time.
But two things that I think might be worth focusing on in the remainder of our time would be, one, the issue that’s already been raised — the issue of aggregate demand. Are there ways that in a cost-effective fashion we can boost aggregate demand? And the second thing we should talk about is uncertainty, because one of the things that we do here — obviously this has been prominent in the business press — is the notion that, well, companies are now making a profit again, they’re sitting on a lot of cash, but they’re unwilling to put that cash to work investing because they’re concerned about uncertainty, whether it’s legislative, health care, financial regulatory reform, or taxes and the outlook there.
So I’d be interested in hearing some thoughts from the group on both those items. Martin, I will start with you and see if there are some strategies for boosting aggregate demand that would garner your support, knowing that you are obviously concerned about our long-term fiscal outlook.
MR. FELDSTEIN: Thank you very much, Mr. President. Yes, you’re right, I am very concerned about the size of the out-year fiscal deficits. And I would emphasize that the size of the aggregate demand problem is massive. We’re talking about a GDP shortfall of about a trillion dollars, annual rate of a trillion dollars. That’s the size of the gap between the GDP today and what it would be if we were operating at full employment. And that’s why we have about a 10 percent unemployment rate.
So what can be done? Well, I think one thing — I have thoughts about three things. First, fixing the housing markets, the residential housing markets. With the end of the first-time homebuyer credit, I think we’re beginning to see house prices coming down again. I think that’s likely to accumulate more falls in house prices. That will cut consumer spending. And it makes it harder for people to move from where they are to where the jobs are.
The administration’s policies, as you know, have focused on helping people who are having a hard time meeting their monthly payments, on mortgage modifications that cut the monthly payments, but they don’t deal with the major problem of individuals who are underwater in their mortgages, who owe more on their mortgages than the house is worth, and that’s about 30 percent of all of the people who have mortgages. They owe more and the average ratio of their debt to the value of their home is about 130 percent. So it’s not surprising that we’re seeing increasing volumes of foreclosures and defaults, and that can only get worse if house prices fall. So I think an expanded, aggressive strategy to deal with principal modification is really necessary.
The second thing is helping businesses get loans so they can expand their hiring and expand their business, helping small businesses in particular. And the key there as I see it is that local banks are cutting back on their willingness to lend because of their expected losses on commercial real estate. Congress recently passed your plan to use $30 billion of TARP money to inject capital. It remains to be seen how much the small banks are going to be willing to take up some of those funds, but I think more can be done.
In particular, what I think could be done is to allow the small banks that sell impaired loans to the public-private investment partnership or to others, to amortize the resulting losses of capital over several years — say, five years — so that if they sell off an impaired loan that cuts their capital, instead of being forced to cut back on their lending, they would have a period of time over which to do it.
And the third thing deals with the tax rates. As you know, I think that the current tax rates should be continued for two years for everybody, but with no legislative commitment after that. I think the two-year extension would help to keep demand alive at a time when the economy is weak, and the notion that it would not continue after that would take some $2 trillion off the size of the national debt at the end of the decade. And that would give a boost to confidence that the administration is really focusing on bringing down the out-year fiscal deficit.
So I think all three of those can help to move in the right direction and they do so without increasing the fiscal deficit.
THE PRESIDENT: Obviously we may not have time to pursue it today — if you’ve got some specific ideas on the housing front I think we should hear them. And I’ll make sure that our team follows up. The small business — it does sound like you’ve got something worked out that — with some specificity. I’d be interested in seeing how it might fit with some of the work we’re already doing to help get small businesses loans.
The tax debate is a long one. I think the interesting question would be whether you felt the same way if you knew that there was — if you extended all the tax cuts for two years, that you couldn’t hold the floodgates back and you’d then be extending them into perpetuity, whether you’d feel the same way.
MR. FELDSTEIN: I think what could be done after two years will depend on whether there are other reductions in the out-year deficits. If the fiscal commission or if the administration can find either savings on the spending side or changes in tax expenditures so that the outlook is more favorable, the fiscal outlook, then maybe a modified version of continuing the tax cuts. But I think drawing the line at the end of the two years is better than a commitment now to continue indefinitely. And I think not doing anything for the next two years risks sucking a lot of demand out of the economy at a time where really, as you know, we’ve been expanding but at a slower and slower pace, quarter after quarter. This doesn’t seem to me a time when you want to pull back demand by letting tax rates jump.
THE PRESIDENT: Bill, do you have some thoughts on this issue of either aggregate demand or uncertainty — or both?
MR. DONALDSON: Thank you, Mr. President. I believe that in a very short haul, uncertainty is depressing aggregate demand. It is out there, latent. And we have all sorts of evidence of this. We have — the banks are sitting on cash. The consumer is scared, paying down his debt. Wall Street and the financial community is uncertain about where the Dodd bill — how that’s going to work out in terms of regulation.
I subscribe to all that’s been said here before in terms of the amalgamation and working together with community colleges and so forth and so on. But that’s not going to happen overnight. And so what I would suggest is that your administration, and particularly you, step forward with a statement that you’re not going to, at this time, increase taxes for anybody, and relieve that uncertainty.
That isn’t to say that you’re not going to do something about taxes, you and the Congress, but you’re going to delay that. And I think the spark that would come from that, you’re going to delay that, and then weave it into an overall tax reform, but not until you provide that spark to get us off this dead center.
And I think that prolonged arguments in the Congress about this after people come back is going to be counterproductive to this issue of uncertainty. I think that that will heighten it. And I think you have within your power and the power of this administration to put a pin into that uncertainty with a view toward putting the whole tax problem together in a more thought-through, complete package.
THE PRESIDENT: Let me just address this because both you and Martin raised this. I mean, it’s interesting, sort of the focus is on uncertainty with respect to tax policy. Keep in mind that my administration has already been very unequivocal in saying that we will not change taxes at all for 98 percent of Americans, which you’d think would provide some level of certainty; that with respect to aggregate demand, I don’t know any economist — including, I think, Martin — who would argue that we are more likely to get a bump in aggregate demand from $700 billion of borrowed money going to people like those of us around this table who I suspect if we want a flat-screen TV can afford one right now and are going out and buying one.
If we were going to spend $700 billion, it seems that we’d be wiser having that $700 billion going to folks who would spend that money right away if we were going to boost aggregate demand. And the consequences of extending the upper-income tax cuts, based on what we’ve heard fairly explicitly in the political environment, is that you do that now you’re going to do it forever. There’s not going to be necessarily a deal that says — as Martin, I think — an entirely respectable position is to say extend them all for two years and then they go away. I mean, that’s an intellectually consistent position. But that’s not really the position that is being promoted up on Capitol Hill.
And so the question is, if I can achieve certainty for 98 percent of the people affected by the tax code, and there’s an argument about the 2 percent, primarily because there’s also great uncertainty about our deficits and how we’re going to pay for those over the long term, why wouldn’t I go ahead and promote certainty on the bulk of these taxes, and also in that way preserve some flexibility to do something about a deficit, which everybody says is out of control and that we’re going to have to do something with immediately?
I will allow Martin to respond, only because I named him in my comment. And then I’m going to bring in the big guns — I’m going to have Laura come in. (Laughter.) So, go ahead. Go ahead.
MR. FELDSTEIN: Well, thank you. I think there are two issues. One is about the size of the out-year deficits, because the administration’s formal plan, your formal plan, would continue for the 98 percent indefinitely. And so that’s the extra $2 trillion that people worry about.
But I think the impact of the tax increase for the high income who represent about, as you say, 2 percent of the taxpayers but about 50 percent of the tax dollars, the impact is one of attitude, confidence.
As we’ve talked during the PERAB discussion earlier, before you joined us, there’s this concern about the business community’s attitude about the administration. And it’s not just the business community, it’s high-income individuals, entrepreneurs and others. And so the increase in the tax on those individuals is a signal that the administration —
THE PRESIDENT: They have to pay slightly higher taxes. (Laughter.)
MR. FELDSTEIN: — that they’re going to have to pay higher taxes, and it may be even more going forward.
THE PRESIDENT: I understand. I mean —
MR. FELDSTEIN: So it’s more than just the mechanical — whether they can afford another flat-screen TV, but how they think about their business life and economic life going forward.
THE PRESIDENT: I understand your point. And we can’t belabor this. I just think it’s a very interesting discussion because essentially what the argument comes down to is that the psychology of those of us — and I’m in this category — those of us who are wealthy and make a lot of decisions that determine whether investments are made or not — that our psychology is sufficiently important; that even if we don’t need a tax cut, we should give them a tax cut, we should give us a tax cut in order to induce us to play ball, because otherwise we’re going to take the ball and go home.
And I understand the argument, and it may be true, but I think that you might understand how folks who have, as you pointed out, seen their home go underwater by $100,000 or have lost their jobs or are having trouble making ends meet, and they’re thinking, boy, I could use tax relief right now, they might feel like they’re being held hostage here; and that they also know that down the road we’re going to have to make decisions about spending cuts to offset whatever tax breaks or expenditures we put out there; and that they, in the weaker position, are going to be ones who are really hurting.
And so this is something that we’re going to have to wrestle with as a society, particularly given, Martin, that the group that you’re talking about that you said psychologically might need a tax cut are the folks who disproportionately have been benefiting over the last two or three decades from all the growth in productivity so that they have a larger share — we have a larger share — of income and wealth than we have at any time since, what, the 1920s. You probably know the statistics better than I do.
So Laura, do you want to — let me actually get some economic help here. (Laughter.)
MS. TYSON: Well, I didn’t come prepared to talk to the tax issue. I will say a couple of things, having listened to the discussion.
One is I’m struck by the fact that a lot of the companies we talk about having lots of cash, where it sits — if you read the reports, say, of the Business Council, Business Roundtable, National Association of Manufacturers, if you listen to the CEOs of big companies sitting here, this tax issue doesn’t come up.
So I don’t — I’m not in — I don’t really believe, and I don’t think there’s evidence that we can point to to document, that the uncertainty about what’s going to happen to the tax rate of the top 2 percent of Americans who share — the share of income now that they had in 1928, that that is really what’s holding the economy back. I just don’t — I’m not convinced and I don’t hear from the business community in general that that’s the issue.
If they’re going to talk about taxes, the business community that I know with the large amounts of cash that could employ large numbers of people are more likely to talk about corporate tax reform. They’re more likely to talk about repatriation. They’re more likely to talk about deferral. They’re not talking about their particular income tax bracket. So I just am not convinced.
And finally, I was — I didn’t come prepared to say this, but I would say — (laughter) — I’d just go with the CBO here. If you take the money — take the money and spend it on something that is more demand-generating — bring the revenue in from the top 2 percent and use it to fund the national infrastructure bank; use it to fund a tax cut for — to basically a temporary tax cut on payrolls; use it to fund state and local governments on Arne’s education initiative. The money can be used in a more demand-generating way if that’s what we need to do.
So I’m not convinced that uncertainty about the tax rate really has to do with our problem. It is primarily an aggregate demand problem. You’ve articulated it completely. Your team knows it and you know it. The size of the problem is very large — Marty mentioned that as well — and we have limited tools because we’re in a fiscal hole at the beginning.
I think that’s why — and I would point here, if there’s any debate about whether there is uncertainty about aggregate demand, let’s just point to the Federal Reserve and listen to their discussions. Their discussions indicate that they are very uncertain about the state of aggregate demand and that they are beefing up their toolbox of things they can do if things falter more than they expect. So there is a huge amount of uncertainty about the course, the strength of demand. It’s weak and we don’t know how fast it’s going to recover. That’s the reality.
So what can you do on the fiscal side? I think what you have been doing and what we have been talking about are the things we really have to focus on. You have to focus on things where you can spend a limited amount of funds — perhaps by taking in revenue from the top 2 percent — but you can spend some funds on a project, on projects like infrastructure, that both create demand now because they hire people to do the projects now — that’s what Jim has been talking about from the beginning, the importance of infrastructure as a way to hire people now. But brilliantly, such projects also create supply for the future. They also make us more competitive for the future.
And furthermore, if you fund a lot of these projects through public-private partnerships, they will be paid for. They don’t add to the long-run deficit. And also, there’s this wonderful thing of leverage. You know, the CEA report on the stimulus package in July, there was a very good last section there saying about $300-$400 billion of the stimulus package — actually, I guess it was $100-$200 billion — had leverage with the private sector of three to four times. That’s the kind of project where a little government money on an infrastructure project can bring in a lot of money. A little money on alternative energy can bring in a lot of money. A little money on R&D.
So I would urge you to think about leverage, where a dollar of fiscal spending — and this is spending money, primarily, or targeted tax relief — can leverage a lot of private money. And of course, what we’re talking about how we started the program today is exactly that. We’re talking about partnership where the government isn’t putting in many resources at all — it’s putting in some — but you mobilize the private sector.
So that’s — aggregate demand is the issue. We have limited fiscal tools, but I think if we focus on infrastructure, you focus on education, you focus on R&D, alternative energy, places where the private sector really wants to be with you, you’ll get a lot of leverage and you’ll get some jobs.
THE PRESIDENT: I’m going to let — I’d like to hear Paul chime in. And then, Mark, maybe you can address another source of uncertainty that’s at least been expressed and that’s regulatory uncertainty. And then I think we can wrap up.
MR. VOLCKER: I’m going to demonstrate that the chairman of this committee faces an unruly membership. (Laughter.) Has their own minds. But I want to show you that my psychology will not be affected — (laughter) — by turning to the tax rate which you expect that are in existing law. And given the deficit we have — I’m just repeating the arguments — if you’re looking for the priorities of where to provide some stimulus, the most unlikely place to apply stimulus would be for those that already have so much of the wealth of the country that has been accumulated over two decades when the people under $250,000 have had no increase in real income during this period of time.
And it seems to me the argument — whatever the precise number is — is very strong. In fact, I don’t understand the opposite argument. But that’s beside the point, maybe.
*The president’s quote was adjusted after a portion included in the White House pool report was not reflected in the transcript.