Remember Milton Friedman: Spending Is Taxing

Keep your eye on one thing and one thing only: how much government is spending, because that’s the true tax ... If you’re not paying for it in the form of explicit taxes, you’re paying for it indirectly in the form of inflation or in the form of borrowing. The thing you should keep your eye on is what government spends, and the real problem is to hold down government spending as a fraction of our income, and if you do that, you can stop worrying about the debt.

-- Milton Friedman

As the fiscal cliff approaches, many are asking whether Republicans should break their pledges and vote to raise taxes.

These stories miss the point: Republicans have already voted many times to raise taxes.

As Friedman explained, the true burden of taxation is whatever government spends. Jerry Jordan, a former member of President Reagan’s Council of Economic Advisors, told us recently that Friedman would frequently remind Reagan and others during the early 1980s that reductions in marginal tax rates -- which Friedman supported -- were not real tax cuts if spending was not reduced.

It is time to remind Republicans that the same rules of economics still apply to today’s deficit spending. The debate over the “fiscal cliff” presents an opportunity to hammer home what is fundamentally flawed about Washington’s approach to funding government.

Let’s start by finally acknowledging that Republicans who have been complicit in deficit spending have repeatedly violated Grover Norquist’s “Taxpayer Protection Pledge.” While Norquist’s pledge has been effective politically, the policy goals of fiscal conservatives remain unfulfilled, because deficit spending is taxation.

The problem with focusing foremost on preventing new taxes is that borrowing and printing to finance government largesse causes even more pernicious economic distortions. While taxation is harmful in the here and now, manipulating interest rate markets alters incentives to invest and consume not only today, but in the future as well.

An opportunity exists to drive the public discussion toward a focus on the true cause of our nation’s fiscal problems: overspending. Only by putting our country on a sustainable fiscal path can we prevent the tax increases that adherents to Norquist’s pledge seek to avoid. This will require that elected officials commit to voting for budgets that are balanced, against new spending programs that are not offset, and against new borrowing that requires increasing the debt ceiling.

An unfortunate unintended consequence of Norquist’s pledge is that it has provided cover to those Republicans who wish to maintain the guise of fiscal responsibility while simultaneously raising the debt ceiling. Let’s be clear: voting not to raise taxes while also increasing deficit spending means we not only have to shoulder the high cost of government, we have to pay for it plus interest.

As Dustin Siggins and the Heritage Foundation’s William Beach recently noted, “[most people] forget about the impact of interest payments on future budgets.” According to their analysis, if interest rates rise to their historical average of 4 percent, interest payments “would jump by 90%” -- or more -- as the national debt increases.

Grover Norquist was right to focus on creating incentives to shrink government. As Friedman said in 1975, “I do not believe that the solution to our problem is simply to elect the right people. The important thing is to establish a political climate of opinion which will make it politically profitable for the wrong people to do the right thing.”

Ultimately, however, the “Taxpayer Protection Pledge” only addresses one aspect of an increasingly complicated problem. Because many politicians who have signed it continuously vote for more deficit spending, they have in effect violated the pledge. Fear of deficits was supposed to encourage spending restraint. But now, that very fear has been turned around to make conservatives more willing to support tax increases. It’s almost like Milton Friedman saw it coming.

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