Cutting Payroll Taxes to Create Jobs

Looking for ways to jumpstart job creation, the White House and Senate heavyweight Chuck Schumer have both come around to the same idea, cutting the payroll taxes that employers pay on new hires.  The economic sense of this idea is straight-forward:  If you want to induce businesses to hire people whom, under current economic conditions, they wouldn’t otherwise take on, you have to reduce their costs of doing so.   A payroll tax cut is the most direct and targeted way to reduce those costs, which is why the Congressional Budget Office found recently that it’s about the most powerful policy option available to both create new jobs and boost GDP growth.

The President and Senator Schumer have the right idea, and it should be the centerpiece of the jobs bill now making its way through Congress.   In fact, they should think about this in a larger context.  Payroll tax reform can be more than just one of the pieces of a package of job-friendly tax breaks for “small businesses,” and more than a temporary measure to deal with double-digit unemployment.  America’s job-creating power has weakened over the past decade, creating serious reasons to approach payroll tax cuts as not merely a measure to deal with our current high jobless rate, but a key part of a new economic policy.  

For decades, the cost of payroll taxes had little apparent effect on job creation in the United States, the economic area in which we have long led other large, advanced economies.  In the 1970s, when almost nothing else went right with the U.S. economy, we created more than 21 million new net jobs.  In the expansion of the 1980s, while productivity and income gains slowed, we still created more than 20 million more new jobs.  And the expansion of the 1990s added 19.5 million more.  This record of steady, strong job creation came to an abrupt end in the six-year expansion of 2002-2007, when we managed to create less than 11 million new jobs.  So, even before the economy gave back most of those job gains in the 2008-2009 recession, American businesses in this decade were creating new jobs at just about half the rate they did in the 1980s and 1990s.  

America’s vaunted job-creating machine has collided with globalization.  The problem is not simply or even mainly that American businesses have been sending jobs abroad – in fact, the foreign-based workforce of U.S. multinationals has barely grown at all since 2002.  The real issue is that globalization intensifies competition, which makes it harder for businesses to pass along any new costs in higher prices.  The good news is that these forces keep inflation low.   The bad news is that when a business’s costs do go up – most notably, for health care and energy -- and competition stops them from passing along these cost increases in higher prices, they have to cut other costs.  The costs they’ve been cutting are jobs and wages.

Since the chances of Congress passing health care or energy reforms that would contain these near-term costs are slim, it’s time for a new approach that directly reduces the costs to companies of creating new jobs.

So, Congress should cut the employers’ side of the payroll tax for new hires, covering the new employee’s first two years on the jobs.  Over that period, most workers will pick up considerable new, job-specific skills, so employers will want to keep them on when the special tax break no longer applies to them.   To prevent businesses from gaming the system, the policy also should apply only to new hires that increase both the company’s total workforce and its total payroll – safeguards already included in both the Schumer proposal and the President’s plan.  Finally, under the revived pay-as-you-go rules, Congress will have to replace the foregone revenues for Social Security, perhaps even as part of a larger tax reform effort.  

Payroll tax reform could be the leading edge of a renewed commitment by the administration to bolster jobs and wages.   At a minimum, it’s an approach to job creation that just about everyone will understand and most Americans may well appreciate, come November.  On that basis alone, a payroll tax cut should be the core of whatever Congress chooses to call its new jobs bill.

For background on Dr. Shapiro's advocacy for the payroll tax cut, please see: President Obama, Senators Advance Payroll Tax Cut to Spur Job Creation.