Economists See Price for Tax Credit : Budget: GOP proposal for $500-per-child break would add to deficit and spur spending, they say. Experts favor fewer exemptions, lower rates.

By JONATHAN PETERSON

Dec. 3, 1995 12 AM PT

TIMES STAFF WRITER

WASHINGTON — It is touted as a premier example of family-friendly tax relief, a Republican plan to give households a welcome break for the expense of bringing up children.

Yet the GOP’s proposed $500-per-child tax credit, now embroiled in budget talks between Congress and the White House, finds few friends among economists. Asked about it, many experts on economic policy roll their eyes with bewilderment, or express contempt.

“ Ridiculous is the first word that comes to mind,” said James F. Smith, a University of North Carolina economist. “I don’t get what great national goal we achieve with this proposal.”

Smith, a free-enterprise enthusiast who would like Congress to slash the federal budget deficit rapidly, has a lot of company.

“It’s awful. It’s very negative,” said Arthur B. Laffer, an economist known for advocating other types of tax cuts in the 1980s. “It’s really bad economics. It’s bad social policy.”

The saga of the proposed tax credit illustrates in one small way how the U.S. tax code has turned into a fantastically complex mishmash of provisions that have questionable--if not harmful--effects on the larger economy.

Some supporters of the benefit, ranging from tax-cutting conservatives to liberal children’s advocates, have a social goal in mind: helping families afford to raise children. Others see it as a necessary sweetener to help Americans swallow the medicine of balancing the budget, an exercise certain to bring discomfort to many households.

The religious right has pushed hard for the proposal as an expression of pro-family government policy, while other proponents contend that it is only fair for households that have the expense of children to receive a tax break.

“As a culture, we ought to do everything we can to encourage and help parents trying to raise children,” said Gary Bauer, president of the Family Research Council, a conservative group in Washington. “When parents are able to do that well, we all benefit from it.”

It is when that belief is applied to the tax code that the controversy begins.

The Republican proposal--a $500 credit for each dependent child younger than 18--would cost the Treasury $147 billion by the year 2002, yet it occupies a prominent spot in the GOP plan to balance the budget by then. It would take effect in the last quarter of this year, creating a $125 credit in 1995.

“I’m skeptical--but if this is what it takes to get a majority of members of Congress to vote to balance the budget, so be it,” said Carol Cox Waite, president of the Committee for a Responsible Federal Budget, an anti-deficit advocacy group in Washington.

Economists are skeptical for many reasons. Most believe the tax code should be simpler, with fewer deductions and exemptions, rather than weighed down with new exemptions--however idealistic the intent. According to this widely held view, it is not the job of tax policy to favor one type of family over another.

Sooner or later, somebody will have to come up with the money to compensate for the new deduction--such as taxpayers without children. The Republican proposal would give the full benefit to married couples earning up to $110,000 per year and single parents earning up to $75,000.

“I can’t argue with people who like children. I can’t argue with people who like blondes either,” said Peter J. Klenow, an economist at the University of Chicago. But if the argument is about broad-based economic growth, he said, the goal should be fewer deductions and lower tax rates.

The credit for families with children, as Klenow noted, runs contrary to the growing sentiment within Congress and the public for a simpler tax system. “The direction that even the Republicans have talked about is bringing tax rates down and eliminating these deductions,” Klenow said.

The proposed tax break for families with children mystifies some for another reason altogether: Unlike some policy changes, this one could strengthen the nation’s tendency to spend rather than save, a trait that most experts would like to reverse in order to spark future prosperity.

“It works in the wrong direction,” said William G. Gale, a senior fellow at the Brookings Institution. “It makes the other problem worse.”

Such views are widespread among liberal and conservative economists alike. Last May, for example, only 11% of those surveyed by the National Assn. of Business Economists said a $500-per-child tax credit for families earning $200,000 a year would “lead to a stronger economy.” Support edged up to 18% when an income cap of $95,000 was suggested.

One source of concern is that a tax credit for families with children does not provide incentives to work more. Conservative supply-siders, who believe that lower marginal tax rates can motivate workers to be more productive, complain that the credit’s only incentive is to have more children.

Laffer, who described himself as the proud father of six children, recalled a spirited conversation he had with proponents of the tax credit from the religious right: “I told them that if they want to write economic policy, maybe I should write abortion policy.”

Others complain that the $500-per-child credit would be worth less than that to those who need it the most--households that pay little or no taxes. Taxpayers owing $300 in taxes would receive only a $300 credit; those too poor to pay any taxes would get no benefit at all.

“If we’re concerned about creating opportunities, we should target the tax cut more carefully,” Gale said.

The tax code already provides an exemption--$2,500 this year--for dependent children. But because an exemption reduces taxable income rather than taxes owed, it is worth less than a tax credit of equal size.

Moreover, the tax exemption for children has eroded significantly, although it has grown with inflation since 1986. If the exemption had grown at the same rate as income since 1948, it would now be $9,657, according to researchers at the Urban Institute.

“A family with four persons doesn’t have the same ability to pay taxes as a family with two persons, and over the years that principle has been abandoned more and more,” said Eugene Steuerle, an economist and senior fellow at the Urban Institute who supports a tax credit for families with children.

Such arguments--which Steuerle made as a Treasury Department official in the 1980s--helped persuade Ronald Reagan to support doubling the dependent exemption during his presidency. But pro-family advocates have argued that the doubling was not enough, a view that has found sympathy among Democrats as well as Republicans.

In 1991, for example, the National Commission on Children, a bipartisan group headed by Sen. John D. (Jay) Rockefeller IV (D-W. Va.), supported a tax credit for families with children. Unlike today’s proposal, however, low-income families without enough tax liability to qualify for the full credit would have been issued a check for the difference.

Noting that child allowances have been standard practice in Western Europe for years, the panel argued that such a policy would strengthen America over the long haul.

“Other nations that have adopted child-allowance policies regard such subsidies as an investment in their children’s health and development and in their nation’s future strength and productivity,” the commission reported.

The idea survives in the Clinton Administration, which this year proposed a tax credit for families with children younger than 13. The White House plan would gradually ratchet the benefit upward to $500 by 1999 and limit its value for those earning more than $60,000 a year.

Many analysts say they believe that a tax credit of some kind will survive the negotiations between the White House and the Republican-led Congress on the balanced-budget bill.

Said Bauer: “It would be political suicide for the Republican Party to walk out of these negotiations without a tax credit for children, and I’m assuming that they’re smart enough to realize that.”