WASHINGTON – Republican leaders in Congress on Monday backed away from a possible compromise with the Obama administration over expiring Bush-era tax cuts, committing both sides to an election year battle with significant stakes for the economy.
Senator Minority Leader Mitch McConnell of Kentucky and the party’s conservative activists distanced themselves from a statement in an interview Sunday by House Republican Leader John Boehner that he might agree to let tax relief for wealthy Americans expire if that was politically necessary to save middle class tax cuts.
By the end of the day Monday, Boehner, of Ohio, issued a statement dropping his earlier suggestion and saying he too would fight higher taxes affecting any bracket.
President Barack Obama is pushing for a permanent middle class tax cut, but only if Bush-era cuts for top earners are eliminated. Republicans, in turn, want permanent tax relief for all income levels.
The divide is rapidly becoming the marquee issue of the midterm election.
Democrats are using it to portray themselves both as champions of the middle class and as deficit hawks, because, they say, GOP proposals would depress government revenues.
Republicans, however, say that Democrats are prepared to raise taxes on small business owners and couples making more than $250,000 a year during a recession, which, they argue, will hamper a recovery.
The cuts, which were passed in the first term of the Bush presidency, expire at the end of the year. Economists generally agree that the U.S. faces a strong possibility of a renewed recession should lawmakers do nothing and let all of the cuts die.
Given the lackluster recovery – with critical housing and job markets still ailing – an expiration of tax cuts worth about $300 billion a year would be a huge hit to the economy, equivalent to 2 percent of the nation’s total output. The potential economic fallout is far less clear if tax rates rose only for high earners.
The chances that Congress might address the issue before the November election are small. But the opportunities for both parties to use their economic messages during the campaign are large.
Republicans, particularly in the Senate, are gambling that Democrats will be unable to muster enough votes to pass a package that includes only the middle-class cut – and will have to offer relief to all tax brackets to get any legislation through.
That possibility was bolstered Monday when Sen. Joseph Lieberman, an independent from Connecticut, said he would push to extend the Bush-era cuts for all taxpayers for at least one more year.
Other moderate Democrats in both the House and Senate are nervous about leaving themselves open to the charge that they raised taxes during a recession. Those Democrats may be open to a short-term approach that would extend the cuts for everyone for a limited period, after which some or all would expire.
Obama administration officials insist that letting the tax cut expire for wealthy earners won’t hurt job creation. In fact, they said, it would be good for jobs and economy in the medium-term and long-term because it will bring down the deficit.
That “far outweighs any other effect the expiration of tax cuts (for the wealthy) would have,” said Jason Furman, deputy director of the National Economic Council.
Some analysts, however, say the statistics aren’t clear on how much the tax increase would hurt small employers. Proponents of extending the tax cuts for the wealthy worry about the psychological effect in the near term, and the potential for damage later if Congress allows taxes on such investment incentives as dividends to rise to as high as nearly 40 percent from the current 15 percent. Obama has proposed that rate rise to 20 percent.
“With cash sloshing around the system, and significant pent-up demand for equipment investment, you may want to keep ‘animal spirits’ alive, at least until the recovery is in full bloom,” said G.U. Krueger, an economist and president of HousingEcon.com in Los Angeles.