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The pros and cons of the payroll tax cut

John Dimsdale Dec 14, 2011

Jeremy Hobson: Well we’re in another one of those epic Washington fights again — the kind that could shut down the government. This one involves extending the payroll tax cut, which gave middle class Americans an extra $1,000 or so this past year. The cut goes away at the end of this month, unless Congress extends it. And so far the Republican House
and the Democratic Senate can’t agree on how to do so. Supporters of the tax cut say it helps the economy. But is it the most effective economic stimulus?

Here’s our Washington bureau chief John Dimsdale.

John Dimsdale: The brilliance of the payroll tax reduction, according to the Urban Institute’s Roberton Williams, is it adds about $35 to the average worker’s paycheck.

Roberton Williams: They’re more likely to dribble that out in additional spending — “Let’s go to the movie, let’s go out to dinner, let’s buy that dress you want honey. ” If we sent them a lump sum check they might well put that in the bank and say, “I need that in my rainy day fund.”

One drawback: upper middle class workers also profit from the payroll tax break. They’re more likely to save. So Williams says better to extend unemployment benefits, money that’s spent right away.

But some economists, like Stephen Entin at the Institute for Research on the Economics of Taxation, say if the government has to borrow or tax someone else to put money in poorer pockets, it just doesn’t help.

Stephen Entin: These things just play musical chairs with the money: the government gives it out with one hand and borrows it right back immediately with the other.

His says the best stimulus is to cut capital gains and other taxes on investment. That would encourage companies to expand their businesses and hire workers.

In Washington, I’m John Dimsdale for Marketplace.

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