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If you really want to reduce the federal debt, you don’t have to convince Congress of anything. You can just write a check. The Treasury Department gladly accepts gifts from anyone so inclined.

Few are, apparently. So far this year, donations totaled less than $1 million. Shocking, no? <grin>

The government’s revenue is mostly involuntary via taxes, and it’s still not enough to cover spending. We fill the gap with borrowed money that must eventually be repaid from tax revenue with interest.

We can and should work to reduce spending, but finding more revenue is part of the answer, too. The easy button went away 20 years ago during Bush 2. It could have been fixed under Obama except once again everyone wanted to spend more and Congress wouldn’t raise taxes enough to cover it. Interest rates were low so why not borrow when rates were 2% or less? Ironically, interest costs went down even as the debt increased. Now we are paying the piper.

Now, when I say the government needs more revenue, it doesn’t necessarily mean via income tax. That’s just one kind of tax. There are things we can do to make that system fairer and more efficient, but also other ways to raise revenue. When the crisis hits, and it will, everything should be on the table as we seek ways out of this mess.

I know there are readers who would prefer not to raise taxes and would somehow like to think that we can do it with cutting spending. I was in that camp myself for decades. The markets aren’t going to give us our wish.

At some point in the future when the debt is clearly unacceptable to the markets, bond buyers will want to see at a minimum a plan that keeps the deficit under nominal GDP. We will need something closer to balanced budgets and a clear path to sustainability.

When I write we're going to need more tax revenue, it is not because I think US citizens are undertaxed. It is that we have increased our spending in ways nobody wants to cut. Think pensions, Social Security, Medicare, and a host of government benefits. It is technically possible to cut them, but not politically possible. When the crisis comes, we will have to compromise. Those who want government spending are going to have to accept lower spending through a variety of means testing, simple across-the-board cuts here and there, etc.

Those who have always opposed tax increases of any kind (I'm looking at you, Grover) because any tax increase lets government get bigger will have to accept that taxes must be raised. Their goal should be to determine what is the best way to increase revenue while doing the least damage to individuals and the economy.

Nobody is going to be happy. That's just the world we live in. We have dug a very deep hole and unfortunately, we continue to dig. At some point we're going to have to stop digging and start filling.

It would be nice to have some magic bullet fix everything. I don’t believe it will work that way. The answer, if it exists, will more likely be a combination of many smaller solutions. None will suffice on their own, but each can contribute.

As a political matter, “spreading the pain” may also be the only way to reach consensus. People will be more willing to sacrifice if they see others giving up something, too. I think I conclusively demonstrated last week that simply raising income taxes is nowhere near sufficient and is potentially destructive if taken too far. That does not mean we don't need more revenue.

Today I want to follow up last week’s Fair Shares of Debt letter by exploring some other ways to raise revenue. As you’ll see, none of these are “the” answer but they may be part of the answer.

Raising Cash

Let me begin with what should be an obvious, if philosophical, point. A tax system’s purpose is to raise cash for government expenses. In my opinion, part of the solution is to recognize taxation shouldn’t be a tool of social engineering, used to reward some behaviors and punish others. That’s inevitably what will happen, of course; people will respond to whatever incentives the tax system offers. But the system should try to minimize those incentives out of fairness and to reduce economic distortions. We'll soon find our revenue needs no longer allow the luxury of rewarding some groups over others with tax benefits.

Government debt is one of those distortions. With the power to tax, governments shouldn’t need to borrow except in rare emergencies like war. The mere presence of that debt distorts the private bond markets. It forces households and businesses to compete against the government for the available supply of credit. Some government debt is necessary for the functioning of the financial markets, benchmarks, etc. But not $35 trillion going to $60 trillion.

Taxes distort the economy as well but have the advantage of not generating additional interest costs. So generally (again, with exceptions like infrastructure, etc.) it’s better to fund government via taxes than debt.

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