Why No Payroll Tax Cut?

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When Social Security began, payroll taxes were just 1 percent. Today, between the employer and employee contributions, and including the smaller sums that help fund Medicare, they’re 15.3 percent. The payroll tax has quietly soared from 2 percent to 33 percent of federal revenue since World War II — meaning it now brings in nearly as much as the individual income tax, which accounts for 43 percent. When you include the employer’s matching payments, which effectively come out of wages, most families pay more in the regressive, job-killing payroll tax than in income tax.There’s generational inequity, too. Thanks largely to payroll taxes, which apply only to those working for a paycheck, a young family earning $35,000 pays much more in federal taxes than a retired couple with the same income.

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You’d think a tax with so many problems would have politicians clamoring to fix it. But they’re scared off by the assumed link between payroll taxes and Social Security. Cutting the former seems to imply cutting (or at least monkeying with) the latter, which remains one of the chief taboos of modern politics.

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Although there appears to be an abiding faith among policy makers that tax incentives can influence the investment decisions of firms and serve as a tool for stabilizing the economy, empirical evidence for the connection is weak. Econometric research has commonly found that tax policy and the cost of capital have little effect on real investment. Economic theory predicts that the marginal user cost of capital should be the primary determinant of investment demand but actual estimates of the price elasticity of nvestment … mostly lie between zero and -0.4… The evidence that investment is only modestly responsive to price has been one of the most robust findings of the empirical investment literature.