Last weekend, while tea party protestors flocked to Washington to complain about taxes and big government, I was meeting in Toronto with other tax policy wonks for two days of technical discussions on tax expenditures:  tax-code provisions that target special benefits to selected taxpayers or activities. And we found that, increasingly, the big government the tea party people fear is doing its business through this pseudo-spending.  

Four decades ago, former Treasury Assistant Secretary for Tax Policy Stanley Surrey invented and popularized the concept of tax expenditures, which he saw as a method politicians often used to enact stealth spending programs. So, instead of the Energy Department providing grants to encourage utilities to use wind power or other forms of alternative energy, government now lets these businesses claim renewable energy credits to offset their tax liability.  Instead of the Department of Housing and Urban Development subsidizing the construction of low-income housing directly, we let developers claim tax credits for projects selected by state housing authorities. As Surrey noted long ago, there is no real difference between direct spending and these tax subsidies.  Today, virtually every OECD country annually lists tax expenditures and estimates how much they cost.

Tax expenditures make a mockery of official estimates of government’s size. Many years ago, the late Princeton tax economist David Bradford, who served in both the Ford and George H.W. Bush administrations, showed how government could slash  the defense budget without shrinking national security one bit.  Instead of purchasing armaments from defense contractors, the Pentagon could issue rights to claim “weapons supply tax credits” to these same firms.  Government spending and tax collections would drop, but the munitions inventory wouldn’t.

Bradford was kidding, but the explosion of tax expenditures in recent years is no joke. CBO estimates that the recession and the stimulus bill have increased federal spending from 21.0 percent of GDP in 2008 to 26.9 percent of GDP in 2009.  Even after recovery and the end of stimulus outlays, spending will still claim a projected 23.4 percent of GDP in 2019.  But these estimates ignore hidden spending through the tax code.  TPC economists have estimated that tax expenditures for individuals and families cost $750 billion in 2007-- about 79 percent of individual income tax liability in that year. And former Joint Committee on Taxation staff director Ed Kleinbard figures that all tax expenditures (including those for businesses) added up to 8.6 percent of GDP in 2008—their highest share of the economy since before the 1986 Tax Reform Act, more than all discretionary spending, and more than double non-defense discretionary spending.  Finally, TPC co-authors showed the Toronto group how the biggest tax benefits—for health care, housing, and saving—disproportionately benefit the upper middle class.

True, the measurement of tax expenditures is a bit murky and people disagree about which provisions are true tax cuts and which are simply disguised spending.  While we wonks will continue to argue these fine points, it’s safe to say that, by any definition, government is far bigger than official budget estimates portray. But don’t expect to hear any complaints from the tea-party people, who would be the first to denounce any effort to control this hidden pseudo-spending as a dreaded tax increase.