TeeJaw Blog

Will Tax Increases Reduce The Debt — Or Make It Even Larger?

Posted in Economic Theory, Government and Politics by TeeJaw on Thursday, September 2, 2010, 1: 03 PM

On March 10, 2000, roughly seven months before the Presidential election and even longer before it would be known whether Al Gore or George Bush were to be the next President, Peter Robinson interviewed Milton Friedman on his internet video production Uncommon Knowledge. Robinson asked Milton Friedman to offer advice to the next President by answering five questions:

How can the President keep the economy growing?
What should the next President do about the federal surplus? [There actually was a surplus then]
How should the next President attempt to fix Social Security?
How can the next President improve education?
What should be done about health care?

Milton Friedman answered each question. His answer to what to do about the surplus is instructive for its insight into what should now be done about the massive government debt that has replaced the surplus of ten years ago. Obama wants new taxes and increases in existing taxes. Conservatives want the Bush tax cuts made permanent, and other taxes to be cut, such as the corporate tax rate which is the second highest in the free world. What would Milton Friedman say? Here is what he said then:

Peter Robinson: Now let me ask you, I want to back up to this question of, cut taxes versus pay down the debt. So what you’re saying is, cut taxes, because Congress will never be able to resist the temptation to spend it. Paying down the debt may be a good idea, but it’ll never happen.

But let me ask you as an economic matter, if Congress could find the willpower to pay down the debt, should it? In other words, what would be better at this point purely on an economic analysis: paying down the debt or cutting taxes?

Milton Friedman: Well, let me talk about paying down the debt, because that ties in with your Social Security problem. They’re not really paying down the debt. They’re converting funded debt to unfunded debt, because of the coming problem in Social Security.

Let’s look at it this way: they pay down the debt. They buy up government bonds. What do they do with those government bonds? They put them over here in a box labeled: trust fund for Social Security. Now you come to the period when current receipts from wage tax are too sparse to pay benefits.

Peter Robinson: Right, into the Social Security fund.

Milton Friedman: So they take these bonds out and sell them again to the public. How else are they going to pay for it? So what you are doing is simply changing the form of the debt, but you’re not really reducing the debt–

Peter Robinson: Because these obligations are going to be there no matter–

Milton Friedman: And their present value is a debt. And that debt is all recorded in this fake trust fund, which is pure paper artifice; has no real role.

Peter Robinson: But if you cut taxes, what does that do to help the government meet its unfunded obligations.

Milton Friedman: It doesn’t do a thing, but let’s go back. To meet the unfunded obligations, you really need a change in Social Security. All the rest of this talking about paying down the debt as a way of solving the Social Security problem–

Peter Robinson: Is nonsense?

Milton Friedman: –is an evasion. In the long run government will spend whatever the tax system will raise, plus as much more as it can get away with. That’s what history tells us, I think. So my view has always been: cut taxes on any occasion, for any reason, in any way, that’s politically feasible. That’s the only way to keep down the size of government.

Friedman’s answers to the remaining questions can be found here.

One of the new taxes Obama would love to saddle us with is the Value Added Tax (VAT). Here are Dan Mitchell’s thoughts on what a VAT would do to the United States:


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