[Senate Hearing 108-6]
[From the U.S. Government Publishing Office]


                                                          S. Hrg. 108-6
 
                             TAX FAIRNESS:
         DOES DOUBLE TAXATION UNFAIRLY TARGET OLDER AMERICANS?

=======================================================================

                                HEARING

                               before the

                       SPECIAL COMMITTEE ON AGING
                          UNITED STATES SENATE

                      ONE HUNDRED EIGHTH CONGRESS

                             FIRST SESSION

                               __________

                             WASHINGTON, DC

                               __________

                            FEBRUARY 4, 2002

                               __________

                            Serial No. 108-2

         Printed for the use of the Special Committee on Aging









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                       SPECIAL COMMITTEE ON AGING

                      LARRY CRAIG, Idaho, Chairman
CONRAD BURNS, Montana                JOHN B. BREAUX, Louisiana, Ranking 
RICHARD SHELBY, Alabama                  Member
RICK SANTORUM, Pennsylvania          HARRY REID, Nevada
SUSAN COLLINS, Maine                 HERB KOHL, Wisconsin
MIKE ENZI, Wyoming                   JAMES M. JEFFORDS, Vermont
GORDON SMITH, Oregon                 RUSSELL D. FEINGOLD, Wisconsin
JAMES M. TALENT, Missouri            RON WYDEN, Oregon
PETER G. FITZGERALD, Illinois        BLANCHE L. LINCOLN, Arkansas
ORRIN G. HATCH, Utah                 EVAN BAYH, Indiana
Elizabeth Dole, North Carolina       THOMAS R. CARPER, Delaware
TED STEVENS, Pennsylvania            DEBBIE STABENOW, Michigan
               Lupe Wissel, Ranking Member Staff Director
                    Michelle Easton, Staff Director

                                  (ii)




                            C O N T E N T S

                              ----------                              
                                                                   Page
Opening Statement of Senator Larry E. Craig......................     1
Statement of Senator John Breaux.................................     3
Statement of Senator Orrin Hatch.................................     4
Statement of Senator Gordon Smith................................    27
Statement of Senator Thomas Carper...............................    50
Statement of Senator James Talent................................    83

                                Panel I

Hon. Glenn Hubbard, Chairman, President's Council of Economic 
  Advisors, Washington, DC.......................................     6
Hilary J. Kramer, Senior Strategist and Advisor, Montgomery Asset 
  Management, and Business Commentator, Fox News Channel, New 
  York, NY.......................................................    30

                                Panel II

Dick Buxton, Boise, ID...........................................    55
Dan Mitchell, McKenna Senior Fellow in Political Economy, The 
  Heritage Foundation, Washington, DC............................    60
W. Mark Crain, Director, Center for Study of Public Choice, and 
  Professor of Economics, George Mason University, Fairfax, VA...    70

                                 (iii)


  


  TAX FAIRNESS: DOES DOUBLE TAXATION UNFAIRLY TARGET OLDER AMERICANS?

                              ----------                              


                       TUESDAY, FEBRUARY 4, 2003

                                       U.S. Senate,
                                Special Committee on Aging,
                                                    Washington, DC.
    The committee convened, pursuant to notice, at 10:05 a.m., 
in room SD-628, Dirksen Senate Office Building, Hon. Larry 
Craig (chairman of the committee) presiding.
    Present: Senators Craig, Smith, Hatch, Talent, Breaux, and 
Carper.

     OPENING STATEMENT OF SENATOR LARRY E. CRAIG, CHAIRMAN

    The Chairman. If the room would come to order, let me 
convene this U.S. Senate Special Committee on Aging. Before we 
start the hearing this morning, this is a difficult day in our 
country and I would ask that you join me in a moment of 
silence.
    [A moment of silence was observed.]
    I thank you very much for that. It is a difficult morning 
in America, but those seven who lost their lives on Saturday 
that we honor and recognize today at the Johnson Space Center 
in Houston would be the first to tell us it is important to get 
on with life and for this country to continue to function so 
well and to be able to properly deal with the problems that it 
faces, and that is, in part, what this hearing is about today.
    I have been joined with my colleague, Senator Breaux, who 
has chaired this committee for the last nearly 2 years and we 
have worked very cooperatively on a variety of issues. This is 
one, as I began to delve into it, that I found absolutely 
fascinating and appropriate for this committee to deal with. 
Why? Because I really do believe it speaks to the issue of 
double taxation, and after I have looked at this, the method by 
which double taxation unfairly targets older Americans.
    We are pleased to have some of the nation's top economic 
experts testifying on what impact double taxation has on our 
senior citizens, with a particular eye on the President's tax 
relief plan. I look forward to their testimony.
    When you study the tax code, it becomes apparently clear 
that older Americans, both working and retired, are subject to 
double taxation more than most other age groups. The question 
we hope to explore today is whether the rhetoric about tax cuts 
for the rich is really about tax relief and fairness for our 
seniors.
    Older Americans are more likely to hold investments in 
assets that pay dividends than other age groups. Millions of 
seniors, many on fixed incomes, rely on dividend income to make 
ends meet from month to month. The pie chart to my right, your 
left, shows that 52 percent of seniors receive taxable income.
    Ironically, my wife is en route back from Tucson this 
morning, where she has spent the last 4 days with her 85-year-
old mother, who is now a widow living in a retirement community 
in Tucson. She was a nurse all of her life. Her husband, my 
late father-in-law, was a career military person. They were not 
wealthy, but they were frugal and they cautiously and quietly 
invested all of their lives for their retirement. I asked my 
wife this morning, when she had taken all of the materials with 
her mother over to the tax accountant these past few days, 
about how much of Shirley's income is going to be dividends. My 
wife said, ``Over 50 percent.''
    It is interesting that that work is being done now as we 
get ready to visit our accountant and pay our taxes, that the 
pie chart and the studies really are reflective of a good many 
seniors across this country, and I will tell you that my 
mother-in-law, like many in our country, does not classify as a 
wealthy person. But most assuredly, she receives a large share 
of her income from the very issue we talk about today.
    The Cato Institute recently published data from the 
Organization for Economic Cooperation and Development showing 
dividends and corporate tax rates around the world. The bar 
chart to my right, your left, is a summary of the Organization 
for Economic Cooperation and Development data. The U.S. has the 
second-highest combined Federal, State, and local dividend tax 
rate in the world. The chart begs the question, why would any 
company pay a dividend under these stifling tax rates? We hope 
to hear from our witnesses on this question.
    I also find it ironic that we are second from the top and 
the top is Japan, and Japan for the last decade has struggled 
to try to get its economy going and get investment back into 
it.
    Older Americans are also subject to double taxation by the 
Federal Government in the form of the death tax and the 
taxation of Social Security benefits. The death tax has forced 
the break-up of family farms and the sell-off of small 
businesses in order to pay the government after death. It is 
unfair to tax a person's savings and earnings twice while they 
are alive, but it is immoral to tax those life savings again, 
in my opinion, when a person dies.
    Today's seniors already pay income taxes on their payroll 
taxes when they work, and now a growing number of modest and 
middle-income seniors must pay income taxes again on already 
taxed Social Security benefits. For many seniors, 85 percent of 
their Social Security benefits are taxed. This tax is a 
disincentive for seniors who want to work.
    I am looking forward to the testimony from the Chairman of 
the President's Council on Economic Advisors who is with us, 
Glenn Hubbard, and also Hilary Kramer of Montgomery Asset 
Management, a regular business expert appearing on Fox News, as 
our first panel.
    Our second panel will be Dick Buxton, one of my 
constituents, who will describe the impact of double taxation 
on his family in Idaho. Also testifying are Dr. Dan Mitchell, a 
tax reform expert from the Heritage Foundation, and Dr. Mark 
Crain, a Professor of Economics at George Mason University and 
a Trustee for the Virginia Retirement System.
    We look forward to hearing more about these issues from our 
panels of witnesses, and so I welcome them.
    But before I turn to the panels, let me turn to my 
colleague John Breaux from Louisiana, who has been an outspoken 
and appropriate leader for the senior community for a good 
number of years.

                STATEMENT OF SENATOR JOHN BREAUX

    Senator Breaux. Thank you, Mr. Chairman. I will try to be 
very brief. I think it is appropriate that we look at tax 
recommendations on a regular basis, particularly to determine 
whether the tax code targets any group of Americans unfairly or 
differently from others, and I think that the purpose of the 
hearing this morning is to look to see if there are problems in 
the existing code which unfairly treat seniors.
    The fact is, on Social Security taxes, the benefits of most 
recipients are not taxed. Most seniors who are retired do not 
pay taxes on their Social Security income because you don't 
start paying it until you reach a certain threshold. The 85 
percent taxation coverage only kicks in when seniors have a 
single income in retirement of over $34,000, or $44,000 for a 
couple. The average income in Louisiana for working people is 
about $22,000 a year. That is for working people, so for 
retired people, it is much less than that.
    So most of the benefits of people who get Social Security 
are not taxed. Some are. The concept is that there should be 
taxation of those benefits that exceed the contribution of an 
individual that they have placed in over their working years. 
Congress has determined back, I guess, in 1993, that that was 
an appropriate request for seniors who reach a certain income 
level in requirement to help shore up the Social Security 
system, which, if you have seen the projections on the 
difficult situation that it is in, as well as the Medicare 
program under the HI portion of the Social Security tax. So it 
is appropriate that we can look at this, but we also need to 
keep it in proper perspective.
    The second portion is the double taxation of dividends. I 
think as a policy measure, double taxation is not a good idea. 
Having said that, over half of the President's tax proposal is 
addressing this problem, which originally was a proposal to 
stimulate the economy. Almost every economist that we have 
talked to has indicated both publicly and privately that 
elimination of the double taxation on dividends is not going to 
be short-term stimulative to the economy. Is it correct policy 
in the long term? The answer is probably yes and I think we 
need to take a look at it in that vein.
    But at the same time, I would point out that in my State, 
which a lot of other States fall in the same category, only 8 
percent of the people in my State of Louisiana are subject to 
any tax on dividends at all, 8 percent, IRS figures. So we are 
going to spend $374 billion on a program that 92 percent of the 
people in Louisiana don't pay taxes on anyway. Now, is that 
good tax policy? Maybe. Is it worth over half of the total 
package? I question it. Does it stimulate the economy? The 
answer is no.
    So these are all questions that are appropriately being 
discussed here today and we need to hear both sides of the 
issue and I thought that is why I would say what I said. Thank 
you.
    The Chairman. John, I appreciate those comments and your 
frankness and the openness. That is the value of this committee 
and the purpose of hearings, to build an objective record on 
this important issue.
    We have now been joined by my colleague, the senior Senator 
from the State of Utah, Orrin Hatch. Orrin?

              STATEMENT OF SENATOR ORRIN G. HATCH

    Senator Hatch. Thank you, Mr. Chairman. I want to welcome 
both of you here. We appreciate both of you being here. Dr. 
Hubbard, I have watched your career down at the White House and 
I think you are doing a terrific job. I think as one of the 
designers of the President's tax program, you have made some 
bold moves here that I think could make a real difference in 
our society.
    I am appreciative, Mr. Chairman, of you scheduling this 
hearing today. I am new to this committee and I look forward to 
working with you and Senator Breaux on the issues that matter 
to Utah's seniors and seniors all over the country.
    I am especially glad we are here today discussing the 
double taxation of senior citizens. Millions of older Americans 
pay far too much in taxes, and this year, we are going to cut 
those taxes. Our nation's seniors spent decades working long 
hours, scrimping and saving for their well-deserved retirement, 
only to find that no matter how old they get, the tax man still 
has seniors in his sights. Age springs wisdom, but not tax 
relief, and this year, I want to help the President change 
that.
    President Bush wants to cut income taxes for seniors. He 
wants to lower their marriage penalties, and he wants to 
eliminate the double tax on their dividends. I think this is 
the right plan for America's seniors as well as everybody else.
    This hearing examines the double tax on dividends. Over 
half of all income tax filers over 65 years of age pay tax on 
dividends, and over one-third of all filers between age 55 and 
age 64 have taxable dividends. Millions of people saving for 
retirement, close to retirement, or working for an early 
retirement are also paying these double taxes. Right now, 
corporations give more than a third of their profits over to 
the government in taxes, and then we demand that when investors 
get their share of these profits in the form of dividends, they 
have to pay income tax on it again. As President Bush keeps 
reminding us, taxing income once is fair, but taxing it twice 
is not fair.
    Mr. Chairman, this is not a question of rich versus poor. 
Elderly Americans with modest incomes receive substantial stock 
dividends. In fact, more than half of all tax filers over the 
age of 65 earning between $30,000 and $40,000 per year receive 
taxable dividend income. Because our nation's senior citizens 
have been so thrifty during their lives, these dividend 
payments are sizable. Seniors who receive dividends and earn 
between $30,000 and $40,000 per year in total income receive an 
average of over $2,000 per year of that income as taxable 
dividends.
    Further, ending the double tax on dividends will decrease 
the risk of bankruptcy and improve corporate accountability. 
Over my years of public service, I have met far too many 
seniors who have lost part or all of their savings because the 
companies that they invested in went bankrupt. Last year, we 
enacted tough corporate accountability reforms to help 
strengthen our nation's capital markets. This year, we should 
enact the President's corporate reform tax cut to finish the 
job. America's seniors will be rewarded with safer investments 
and a more secure retirement.
    I am very interested in this issue, but unfortunately, my 
duties are not going to permit me to stay at all here because I 
have got to be over in the Capitol in just a few minutes, but 
let me just say one thing. I have got an analysis that says 
this more than $300 billion revenue loss from the dividend plan 
would be more than made up over the years and that if you use 
any kind of scoring total besides static analysis, the country 
would wind up actually benefiting, not only because we wouldn't 
be paying double taxation, but because, in essence, Treasury 
would get as much revenue anyway.
    I remember when we were arguing for capital gains rate 
reductions on the Hatch-Lieberman bill in 1997. The argument 
against it was, using a static analysis, that we were going to 
lose revenues. Our argument was, the Treasury wouldn't lose 
revenues and we would probably gain revenue. Well, a study by 
DRI, not a conservative econometric modeling firm, concluded 
that, yes, we didn't lose revenues, that we slightly gained on 
the capital gains rate reduction.
    I suspect removing the double taxation of dividends is 
going to have a similar effect over time. So I would be 
interested in knowing what you feel about that, both you, Ms. 
Kramer, and you, Dr. Hubbard, because I think sometimes people 
around here using static analysis are wrong. In fact, many 
times, they are wrong. Now, I think we could go too far in 
using a dynamic analysis, too, but there ought to be something 
in between that acknowledges that there is some dynamism in the 
economy that will work in favor of tax rate reductions.
    I just want to compliment both of you, but especially you, 
Dr. Hubbard, for the work you are doing down there at the White 
House. It isn't easy to make these type of decisions. It isn't 
easy to promulgate them. It is certainly not easy to win on 
them, but I intend to see that you win this year and I just 
hope that we can.
    Thanks, Mr. Chairman. If you will forgive me, I had better 
get over there.
    The Chairman. Orrin, thank you very much, and in the course 
of their testimony, it is possible that Mr. Hubbard could 
respond to your query. But I do thank you for coming this 
morning.
    Now let us turn to our first panel. I had mentioned in my 
opening comments their introduction. Dr. Glenn Hubbard is 
Chairman of the President's Council of Economic Advisors, and 
as I think Senator Hatch has said, ``He has worked with the 
President to put forth a daring tax reform stimulus package 
that is now before the Congress and will clearly be before us 
soon.''
    Again, this morning, we want to focus on the impact on the 
senior community, a community of fixed-income Americans who vie 
with inflation and a variety of costs in which they and we all 
live, but unlike us, in many instances, their incomes are 
fixed.
    Second on the panel is Hilary Kramer, a Senior Advisor and 
Strategist at Montgomery Assets Management and Business 
Commentator for Fox News Channel.
    We welcome you both. Dr. Hubbard, please proceed.

STATEMENT OF HON. GLENN HUBBARD, CHAIRMAN, PRESIDENT'S COUNCIL 
              OF ECONOMIC ADVISORS, WASHINGTON, DC

    Dr. Hubbard. Thank you very much, Mr. Chairman, for holding 
this hearing, and thank you, Senator Breaux. I think this is an 
extremely important topic that you have raised, Senator, and 
the implication for seniors.
    What I want to do in my oral remarks is really just focus 
on a couple of things with you. One, to go over the questions 
you asked directly about seniors in your remarks, but also to 
tell a little story of why I think this is economic policy that 
the Aging Committee should be concerned with going long-term, 
as well, and to get at the issue of why, if you never receive a 
dividend check, this is still very much in your interest.
    To start, of course, with what the President was trying to 
accomplish, the President in his Jobs and Growth Initiative was 
trying to provide near-term growth insurance for the economy 
while also being consistent with very good long-term tax 
policy. This policy toward bolstering the economy in the short-
term and the long-term, we believe, helps America's seniors in 
important ways.
    To start with, as you made, Mr. Chairman, the point in your 
opening remarks, ending the double tax on corporate income 
directly benefits seniors who receive dividend checks. About 
half of all the dividend income in the U.S., whether it is 
measured just as total dividends or dividends that would be 
excludable under the President's proposals, goes to America's 
seniors, who often, as you indicated in your example, Mr. 
Chairman, rely on those checks for a steady source of 
retirement income.
    It is also important to note that even among seniors, low- 
and moderate-income seniors benefit. About 40 percent of 
seniors with incomes below $50,000 receive dividend income, 
and, of course, seniors generally benefit from overall relief.
    But just as important as this increasing after-tax income 
is for seniors and reducing double taxation, it is important to 
tell a story of why this is so much in our economy's interest. 
When we double tax something, like double taxing corporate 
income, the burden gets borne somewhere, and surprisingly, who 
pays it is all of us. It is not just who gets dividends, but 
all of us in terms of our wages.
    To see this, if we double tax corporate income, we raise 
the tax burden on capital, we get less investment in our 
economy, and ultimately lower wages for all of us. For this 
committee, Mr. Chairman, as you think about aging policy, there 
is no variable more important for the long-term integrity of 
the Medicare program or the Social Security program than our 
economy's capacity to grow. These are very important long-term 
issues for seniors.
    There is an important long-term piece of good news to start 
out with, as well. The American economy has very strong 
fundamentals. Those don't come from the sky. They result from 
the flexibility of the American private sector and from public 
policies that try to promote flexibility in capital 
accumulation in the consumer.
    To get to the here and now reasons the President was so 
bold in his growth package, I think it is important, if I 
might, Mr. Chairman, to say a bit about the current economic 
situation. We all know where we are and we all know that events 
of over-investment in the late 1990's, the terrible tragedy of 
September 11, corporate governance scandals, have placed a 
cloud on the nation's economic activity and recovery. A good 
chunk of what makes this particular episode in our economy 
different is the pattern of business investment.
    In a typical recession and recovery, investment drops and 
then sharply rebounds. In the current recovery, we are seeing a 
lagged and delayed recovery of investment. As I travel across 
the country talking to business people, as I am sure you do, as 
well, you hear stories of very high hurdle rates, very high 
bars placed on new investment, and this is really a key drag to 
our economy. The uncertainty surrounding the recovery, 
uncertainty surrounding tax policy, is a key risk to the 
outlook, as well as consumers deciding, perhaps, to increase 
their saving a bit in the near term in response to declines in 
equity values.
    In response to these downside risks, the President put 
forth a growth package which would shore up consumer incomes, 
the acceleration of the marginal rate cuts you have already 
enacted, increasing small business investment incentives 
through expensing, and importantly, eliminating the double tax 
on corporate income, not just on dividends, but on corporate 
income generally.
    We believe that these proposals will help the economy a 
great deal in the near term. To those who say that the 
corporate income double taxation has no short-term effect, I 
beg to differ. Most of my professional career has been spent 
studying investment, and I believe it is fair to say that the 
bulk of research on this topic would suggest very large effects 
on the cost of capital of what the President is doing.
    To be concrete, were the President's proposal to be enacted 
by you in its entirety, the cost of capital for investment 
could fall by as much as 10 to 25 percent, depending on the 
life of the equipment we are talking about, and that is 
equivalent to an investment tax credit of between 4 and 7 
percent. That is very big. This is perhaps the most radically 
pro-investment tax policy in decades.
    In addition, of course, the President remains very focused 
on job creation in the short run. The President's proposal 
would get $58 billion into the economy in 2003, and that is the 
down payment on a long-term tax cut with very large projected 
responses from consumers.
    I think it is important to close, if I might, again with a 
couple of longer-term obligations. One, of course, ultimately, 
economic policy, whether it is in the short-term or the long-
term, has to be about our economy's fundamentals. The best way 
to tax capital from a purely economic perspective is not to tax 
it at all, and again, the reason for this has little to do with 
who gets dividends, although that is important, too, and 
everything to do with all of our wages. The person who writes 
the check to the IRS is not the person bearing the burden of 
the tax.
    The final point I would raise is there is caution, and 
rightly so, as we think about the nation's fiscal health going 
forward. The President's budget remains very committed to 
restoring fiscal health through pro-growth tax policies and 
through spending restraint. It is important to look at a fiscal 
anchor, and to me, as an economist, a good fiscal anchor is our 
country's debt-to-GDP ratio, which, again, is not rising as a 
consequence of the President's proposals.
    Are the current deficits welcome? No, of course, they are 
not. Are they understandable? We know they are, and the 
administration's pro-growth plans have a way to get out of 
them.
    I will just close with you, Mr. Chairman, with the 
observation that were the President's proposals to be enacted, 
we believe the level of GDP would rise by almost a percentage 
point in 2003, and by the end of 2005, be close to 2 percentage 
points higher and remain so. So going back to Senator Hatch's 
observations when we started, this is a permanent feedback in 
Federal revenue from higher economic growth.
    Thank you very much, Mr. Chairman.
    The Chairman. Dr. Hubbard, thank you.
    [The prepared statement of Mr. Hubbard follows:]
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    The Chairman. Ms. Kramer, before we turn to you, let me 
turn to my colleague from Oregon who has just joined us for any 
comments he would make to make in opening statement, Senator 
Gordon Smith. Gordon?

               STATEMENT OF SENATOR GORDON SMITH

    Senator Smith. Thank you, Mr. Chairman. I am pleased to be 
here and honored to be on this committee. I think the topic we 
are discussing today is very important because of the simple, 
logical conclusion you can reach, that if you tax something, 
you will discourage it, the activity you tax, and if you tax it 
twice, you will doubly discourage it. I think whether it is 
dividends or taxing Social Security twice, which is another 
double taxation in our system, we ought to, as a matter of 
whether you call it stimulus or just to improve tax policy, we 
certainly ought to pursue this.
    For several Congresses now, Mr. Chairman, I have introduced 
a bill that ends the double taxation on Social Security 
benefits that was begun in the Clinton Administration in 1993. 
My colleagues probably know that senior citizens pay Federal 
taxes on a portion of their Social Security benefits if they 
receive additional income from savings or from work, and this 
is something that if we are serious about helping seniors to be 
able to provide for themselves, we ought to end this practice 
and encourage work and encourage saving. I am going to 
introduce that bill again in this Congress, Mr. Chairman, and 
certainly invite my colleagues' support and cosponsorship.
    I have a more lengthy statement I would like to include in 
the record, Mr. Chairman. In the interest of time and hearing 
Ms. Kramer, I will just do that and look forward to her 
testimony.
    The Chairman. Thank you very much, Senator.
    [The prepared statement of Senator Smith follows:]
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    The Chairman. Now, let me turn to Ms. Hilary Kramer, who, 
if you have caught her on Fox News, is an open critic, an 
outspoken critic of double taxation, and so we thank you very 
much for being with us. Please proceed.

 STATEMENT OF HILARY J. KRAMER, SENIOR STRATEGIST AND ADVISOR, 
MONTGOMERY ASSET MANAGEMENT, AND BUSINESS COMMENTATOR, FOX NEWS 
                     CHANNEL, NEW YORK, NY

    Ms. Kramer. Thank you. Mr. Chairman and members of the 
committee, I am very, very thankful that you invited me to 
testify on the relationship between corporate governance and 
the double taxation of dividends. It is extremely important at 
this moment in our nation's history that we take care of 
abolishing the double taxation on dividends because it is 
contributing to problems with corporate governance and we 
cannot once again go through another round of WorldCom, Enron, 
Adelphia. We cannot afford that and we need to see our stock 
market come back up.
    But most important, we need to protect senior citizens and 
give them another option, and the option is--the option would 
be dividend-yielding stocks, and this gives them as asset that 
can grow and income going forward.
    How does it work today? Today, we encourage companies to 
keep the money they have earned. Instead of issuing dividends 
to shareholders, what we do is we have this inefficient system 
in which senior management has been able to exercise creative 
control over the financial results they report to the public 
and has provided them the freedom to stray and wander away from 
their core competencies. Abolishing the double taxation on 
dividends is about keeping companies honest, competent, and 
resourceful and allowing shareholders to enjoy the financial 
returns that they deserve as owners of the companies.
    With a reduction in the taxation of dividends, the interest 
of corporate management would become better aligned with the 
interest of shareholders. Right now, the way it works, a 
significant portion of management compensation in companies 
today is through stock option ownership rather than actual 
ownership of shares. Since an option holder doesn't receive a 
dividend but instead receives all his benefits, or her 
benefits, from the appreciation of the stock, the interest is 
to take extra cash in the company and try to invest it in 
whatever kind of enterprises could create the hype that could 
create a stock price to go up.
    Where have we seen this? Everyone can talk about United 
Airlines and U.S. Airways and talk about the fact that the 
aviation industry is broken and the model doesn't work. As far 
as I am concerned, United Airlines twice has made the same 
mistake. They took the money they made in the boom days of the 
late 1990's and they spent it on fractional jet aviation 
ownership companies, spent it on the Internet. They did it in 
the 1980's by deciding to become a hotel chain company, buying 
Westin, buying rental car companies. We can't see this happen 
again. It would have been much more beneficial if the money had 
been careful used and given to shareholders to decide if they 
wanted to go and rent a car. That is the way it needs to work.
    Moreover, companies also use the cash to buy back stock or 
simply to hoard it for future opportunities, like with 
Microsoft. In many cases, none of these actions is as good for 
shareholders as would be receiving a dividend and having the 
discretion to spend it as we need. But with the current 
punitive tax treatment of dividends, management has 
significantly less pressure to change this damaging and 
negative behavior.
    Finally, with the present double taxation of dividends, 
most companies have a major incentive to raise a significant 
amount of debt and, therefore, have unhealthy balance sheets. 
So it is not just companies going into bankruptcy because of 
accounting fraud, but you have companies that weren't prepared 
for the downturn and that is the problem. So companies like K-
Mart, for example, and what we have seen in the retail space, 
Montgomery Ward, Bradley's, there is a whole list of them, and 
we keep hitting new records of bankruptcies across the board.
    The bottom line, implementing President Bush's tax reform 
proposal promises wide-scale impact on the stock market. It 
will help boost stock prices, encourage more responsible 
investing, strengthen corporate governance and responsibility, 
provide investors, especially senior citizens, with income, and 
with long-term ownership and the opportunity to make money 
because the stock itself can go up in value.
    Plus, we need to never have a stock bubble like we have now 
because we are still going through the correction and we are 
still paying the price today, and I am out there talking to 
people all the time and senior citizens especially are hurt. 
They are hurt, their portfolio is down, and many are broke. 
Just go to retirement areas. I was just in Palm Springs at a 
conference. I go to Florida. You know what? I see 85-year-old 
people at the cash register instead of enjoying the fruits of 
their labor and the work that they have done.
    Now, on the positive side, and I think it is important to 
end on the positive side, history proves to us that our country 
and our stock market is about dividend-paying enterprise, and 
when we look back--I took a look and I have done research and I 
have made analysis on this. If you look at companies that are 
around 50 years, 100 years, they pay dividends, where 
prosperity is integral to dividend-paying companies.
    For example, Johnson and Johnson, over 100 years old, a 1.5 
percent dividend yield. Bristol Myers, 4.8 percent. General 
Motors, 5.5 percent. J.P. Morgan Chase, 5.8 percent. Another 
point with this is the reason J.P. Morgan Chase is going to 
make it through their problems, through their clouds of 
uncertainty, is that shareholders know they are going to 
receive a check in the mail, and that is what matters at the 
end of the day.
    So dividends don't lie and it is very important senior 
citizens have other options besides a 1.5 percent C.D. Thank 
you. Thank you.
    The Chairman. Ms. Kramer, you lived up to expectations and 
we thank you very much for that.
    [The prepared statement of Ms. Kramer follows:]
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    The Chairman. Let us go through a round of questions with 
the panel and get your responses to a variety of our concerns.
    Dr. Hubbard, the President talked about how the proposal of 
ending the double taxation of dividends was especially good for 
seniors, and while I am not an investor in any major way, I do 
know that in studying it a bit, you hear investment advisors 
talk about active and aggressive investments during your 
earning years and as you become more senior, you shift your 
assets in your portfolio and you move to much more stable, 
secure investments and dividend-earning capacity. When you 
leave the job market, that is where the largest portion of your 
investment ought to be.
    My questions are, is that a true pattern with most seniors 
as they move toward retirement and as they shift their 
investment, and do you agree that these figures that I have 
offered that Cato has come up with are accurate as it relates 
to seniors and as it relates to investment dividend to their 
income? Last--that would be two questions. The other one would 
be, can you tell us the average dividend income and the average 
potential dividend tax savings per senior?
    Dr. Hubbard. Sure. Just to take up your questions in turn, 
Mr. Chairman, it is, of course, true that seniors, on average, 
have higher levels of assets because they have been saving for 
their retirement, and as you pointed out, often more 
conservative portfolios as they become elderly, which makes 
them particularly benefiting from the President's proposals.
    If you look at Treasury estimates of who is paying the 
dividend tax now, about $37 billion in dividends that are 
currently received by seniors would become tax-free. There are 
more than that received by seniors, but that much would be 
excludable. As you noted in your opening, more than half of the 
seniors are getting excludable dividends.
    It might interest you to know that if you look at the 
seniors making under $50,000, and then I will get to your more 
general question, roughly five million tax returns in that 
area, would still get about $1,500 in dividend income and save 
a few hundred dollars a year, and this is just the seniors 
making less than $50,000. Obviously, higher-income seniors 
would benefit more.
    If you look at the totality of what the President is 
proposing, the typical senior would get an average tax cut of 
about $1,400. So this is actually quite substantial.
    Your question about the OECD numbers, it is quite correct 
that for equity-financed investments, the U.S. has a punishing 
tax system. There is really no other country in the G-7 that 
fails to provide some sort of relief for double taxation, so 
this is a real problem. It shows up, as Ms. Kramer was saying, 
in biasing toward other kinds of investments that expose the 
economy to financial fragility. It makes our companies less 
competitive abroad as well as at home. So these are all very 
important issues the OECD study raises.
    The Chairman. I thank you.
    Ms. Kramer, while I am going to work mightily to keep this 
focused on the impact on seniors, because that is the guide and 
the direction of this committee, we also understand the impact 
of the economy on seniors and the reality of declined incomes 
for them. You have mentioned, and, therefore, having to shift 
lifestyles, and we are not talking about wealthy people, but 
people who have saved all of their lives to build a nest egg to 
gain those rewards, and then to have the difficulty of seeing 
them disappear and/or substantially be reduced.
    In your testimony, you have listed several critically 
important corporate governance advantages from the President's 
dividend proposal. Can you think of any disadvantages for 
corporate governance if Congress ends the double taxation of 
dividends?
    Ms. Kramer. No. There would be no disadvantage to ending 
it. The concern we keep hearing is concern about what would be 
lost in terms of tax revenue, but that would be more than made 
up for in terms of a stock market that would rise quickly, and 
we have lost $8 trillion dollars of wealth in the stock market, 
right? We have gone from $18 trillion to $10 trillion. We would 
make up that $300 billion and whatever possibly could be lost 
immediately.
    In terms of disadvantages, there are none on the corporate 
governance level because we would get everybody on the same 
page, the shareholder, senior management, and the boards of 
directors.
    The Chairman. You would still have in the economy, 
obviously, startups and venture capitalists and all of those 
kinds of things, and once that company began to grow and build 
its base and do all of that, and this is obviously showing my 
ignorance, I am assuming the transition occurs at a point of 
profitability and a strive to gain profitability.
    I am looking at Microsoft, sitting there with the hugest 
bucket of cash of almost any corporation in America, never 
having paid dividends. I found it fascinating that after the 
President's proposal, they are now talking about dividends. Is 
that a reaction to, or have they simply come to a point in time 
where to secure investment, they feel they have got to start 
rewarding the investor beyond stock value?
    Ms. Kramer. There is an absolute correlation, Senator, 
because Microsoft understands with their brilliant management 
team that with a tax cut, with the abolishing of the double 
taxation of dividends, investors will want to buy Microsoft 
shares to get that dividend. There is $43 billion that needs to 
be paid out.
    Also, Microsoft has lost money by, again, not sticking with 
core competencies. For example, they went and invested in a 
cable company in Brazil. Now, I would have much rather have a 
dividend than to know that Microsoft went, made this investment 
in a saturated market in an area where they couldn't make 
money, they have lost all their money, and me, as a shareholder 
in Microsoft, would prefer that dividend. Microsoft understands 
that, and Bill Gates, yes, he is to gain $100 million in taxes 
he won't have to pay, but so is the shareholder who owns one 
share, or the person who owns it through whatever pension fund 
they might have.
    The Chairman. Thank you. Let me turn to my colleague from 
Louisiana, Senator Breaux.
    Senator Breaux. Thank you, Mr. Chairman. I thank the panel 
for their presentation.
    Dr. Hubbard, you had indicated and were trying to make the 
case that the President's dividend tax elimination proposal 
would be good short-term stimulus to the economy. Alan 
Greenspan disagrees with you, and vocally and, I think, very 
strongly. While elimination of the double taxation on dividends 
is good tax policy in the long-term, which I agree, in the 
short-term, it is not stimulative at all. He points out that 
over 62 percent of dividends that are declared are not taxable 
now because of the fact they are going into pension funds, 
retirement funds, and tax-exempt funds.
    But on the question of short-term stimulus, I can't think 
of anyone that is probably more respected by Democrats and 
Republicans than Mr. Greenspan and he doesn't agree with your 
statement on it being a stimulus in the short-term. What would 
you tell him?
    Dr. Hubbard. Certainly, Senator, I think first to your 
point about the dividends that are received currently by exempt 
entities, what matters for the cost of capital asset prices is 
in econ-speak the marginal investor, and almost all the 
evidence we have in finance is that that is a taxable entity. 
So even if the bulk of dividends went to tax-exempts, that 
would have little to do with the pro-investment aspects of the 
argument.
    I suspect that a lot of this is over what the word 
``stimulus'' means. It is certainly the case the President does 
not view government's job as fine-tuning the economy, and when 
people say the word ``stimulus,'' that often is what comes to 
mind. But go back to the diagnosis I mentioned that the 
President believed that was the problem, which was this delayed 
investment recovery. That is very much centered on hurdle rates 
and costs of capital, and there, eliminating the double tax has 
a very large effect on the cost of capital. I can't comment on 
remarks I didn't hear----
    Senator Breaux. OK. Well, let us assume that is what he 
said, for the sake of argument. Does the White House say that 
Alan Greenspan is wrong in his belief that dividend tax 
elimination is not short-term stimulus?
    Dr. Hubbard. Again, the way I would put it, Senator, is we 
believe that the dividend tax proposal lowers the cost of 
capital now and in the future.
    Senator Breaux. Is it short-term stimulus?
    Dr. Hubbard. I don't like the word ``stimulus.'' More 
importantly, the President doesn't because it has this fine-
tuning feel to it. I think what we believe is that----
    Senator Breaux. When you all first proposed the program, it 
was a stimulus package. It was going to be short-term, it was 
going to be stimulus, and over half of it was going to the 
elimination of the double taxation on dividends. Greenspan says 
that is not short-term stimulus. Does the White House disagree 
with Mr. Greenspan?
    Dr. Hubbard. We believe that the dividend tax part of what 
the President is doing is good for the economy generally. It is 
good in the short-term, it is good for the long-term. In 
economic policy, you can't so nicely put things into short-term 
and long-term boxes. It is a policy that, over time, gets even 
better. So in that sense, it is a long-term policy. But it very 
much would be pro-investment in the short-term, as well.
    Senator Breaux. So you disagree with him, then, in that 
regard? If he says it is not short-term stimulative to the 
economy, the White House disagrees with him, then.
    Dr. Hubbard. Yes. I can't comment on words I didn't hear 
and terms that I wouldn't use, but I think what I can say to 
you is a very straight answer. We think this lowers the cost of 
capital in the same way that a quite significant investment tax 
credit would, and it is hard for me to believe that is not pro-
investment today and in the future, and this, again, is coming 
from somebody who has studied this for many, many years.
    Senator Breaux. You sort of dodged the question. 
[Laughter.]
    You have done your best. I agree that the estimates that I 
have seen is that a large portion of the tax package does 
affect seniors, and I think that is a fact. It seems that 
nearly 15 percent of the total tax cut benefits, in what they 
are now calling a growth package as opposed to a stimulus 
package, go to filers who are over the age of 65. But while 
that, I think, is positive, it also has to be fair in who it 
goes to, and thus the concern that I have.
    I look at Louisiana, my State, and only 8 percent of the 
working people end up paying taxes on dividends. When you get 
to retired people over 65, the number drops exponentially lower 
than even 8 percent that are affected by any dividend tax 
elimination at all.
    The information I have seen is that about 14 percent of the 
total tax package benefits go to people who are over 65 with 
incomes over $1 million. I don't know if there is a single 
person in Louisiana that would fit that category. Maybe, but 
you could probably count them on one hand.
    Over 60 percent of the benefits in the total package go to 
elderly with incomes over $100,000. Now, my State has an 
average income of working people of about $22,000. We are 
talking about basically retired people, where over 60 percent 
of the benefits go to those who are retired making over 
$100,000 a year. From my standpoint, spending that much money, 
it has to hit the largest number of people possible.
    On the dividend income, nearly 43 percent of the benefits 
of the dividend exemption that go to elderly individuals go to 
those with incomes over $200,000, on the dividend exemption. 
Again, I don't know how many in Louisiana I have in that 
category, but I will tell you, you can count them on one hand 
or two hands, probably. It is not a lot.
    So I am just concerned that while we are spending a lot of 
money and it is affecting a lot of people--you point out that--
you said that the average cut, I think, was almost $1,400, the 
average tax cut for seniors. The average cut for seniors, 13 
million elderly would receive a tax cut of about $1,384, but 
almost 80 percent of them will get less than that amount. We 
can play numbers and statistics and averages. If you take the 
average, that is probably true. But almost 80 percent would get 
less than the average, with about 40 percent getting something 
like $100 or less from the proposal.
    Now, I have laid out a lot of facts on the other side of 
what you have said and I would ask you to comment on them.
    Dr. Hubbard. Certainly, Senator. I think there are really 
two key responses to your question. One, just to play the 
traditional game of distribution tables, and I won't go through 
all the numbers. I think your question raises important 
points----
    Senator Breaux. Do you disagree with any of the factual 
numbers I used?
    Dr. Hubbard. Some of the numbers are----
    Senator Breaux. Which ones?
    Dr. Hubbard. Well, I can work with you on that because I 
have some Treasury data, but the patterns you are mentioning 
are accurate, but I would say two things. One, if you look at 
the distribution table as it is currently done in Washington, 
before and after the President's plan, it looks almost the same 
in terms of share of tax burden, because the President's plan 
has a great deal in it for low- and moderate-income families. 
But that is not the point.
    As I tried to say in my remarks, what is really surprising 
as the economic result here is when you spoke well of working 
people, you were exactly on the point. Who ultimately bears 
this tax is working people, even if they never get a dividend. 
This isn't about who gets dividends today. It is about the 
wages of everybody in the future, whether they are seniors or 
all of us as we are getting lower. That is the surprising 
result of economics. That is what the President is focused on. 
Yes, it affects seniors today, but the real issue here is our 
country's productivity and long-term growth. That, to me, is 
the biggest fairness question.
    Senator Breaux. That will be the argument. I mean, a worker 
that is making $22,000 in Louisiana is not going to feel that 
comfortable and feel that he is getting a lot of benefits from 
a retired person who has an income of over $200,000 getting 43 
percent of the dividend tax exemption value. That is not going 
to make that person with a family of four feel very good as he 
struggles, that I am going to really benefit because someone 
over 65 is getting 43 percent of the value of the dividend 
exemption and he is making over $200,000 in retirement income.
    Dr. Hubbard. But, Senator, you are not benefiting as a 
working person because the older, more affluent senior is 
getting dividend checks. You are benefiting because that is 
leading to greater capital accumulation in our economy and 
higher wages. I understand that that does not fit----
    Senator Breaux. I am going to bring you with me to sell 
that point in Louisiana and see what kind of reaction you get. 
[Laughter.]
    Thank you very much.
    The Chairman. Let me turn to my colleague, Gordon Smith 
from Oregon, but before I do, is that $22,000 a year working 
man or woman in Louisiana with a family of four paying any 
taxes under the current----
    Senator Breaux. Hopefully not. Some of the points of the 
President's package are good.
    The Chairman. Yes.
    Senator Breaux. I mean, the child exemption credit is good. 
The marriage penalty is good.
    The Chairman. Actually, that family gains more under the 
President's package than the seniors we are talking about here, 
the $1,400, if they are getting the child tax credits.
    Senator Breaux. I don't know the number on that. We could 
take a look at it. It is----
    The Chairman. Very close to it.
    Senator Breaux. The question, though, and the whole point, 
obviously, is fairness.
    The Chairman. Yes.
    Senator Breaux. If we are going to spend that much money on 
a dividend tax exemption, in my State of Louisiana, only 8 
percent pay any tax on dividends.
    The Chairman. OK. Let me turn to my colleague from Oregon, 
and then we will turn to Senator Carper if he wishes to make an 
opening comment. Gordon?
    Senator Smith. Thank you, Mr. Chairman, and I want to thank 
our witnesses for excellent testimony.
    To Senator Breaux's point about who pays taxes, it is a 
fact that many of these dividends, as they are currently going 
out, are already sheltered because they are in pension funds. 
They are sheltered until they are pulled out. So you could 
argue it is not stimulative in that sense right now.
    That raises for me a question I have had ever since this 
was proposed. I understand why, politically speaking, it makes 
a lot of sense to end the taxation at the individual level, but 
I wonder if you can comment as to the efficiency of markets, 
whether it makes more sense to end it at the corporate level 
and then perhaps give some of what we had before the 1986 Tax 
Act, some allowance for deductibility, though not full 
deductibility, to individuals. Is there a way to, in fact, 
increase the efficiency of this proposal? Ms. Kramer?
    Ms. Kramer. Senator, because the stock market, because the 
economy is all emotion, it is pure psychology, it makes sense 
that it really has to be on the individual level, because an 
individual investor has to feel the benefit of having more 
money in their pocket and that is the bottom line with that. 
Now----
    Senator Smith. Your point, I would assume, is even though 
the corporation still pays the tax----
    Ms. Kramer. The corporation----
    Senator Smith [continuing]. The board room will feel the 
heat because the shareholders will be demanding the dividends.
    Ms. Kramer. The shareholder will demand the dividend. The 
stock market needs to go back up. We need--we have very serious 
systemic problems right now, and if we don't fix them and we 
don't jump-start our economy, we are going to keep losing money 
out of our stock market.
    Yes, I agree that to a certain extent, corporations, if 
they were to have the exemption on terms of the tax, yes, they 
would start capital spending immediately. But no, if their 
stock price goes up, companies will be in a position to start 
engaging in capital spending. Two-thirds of the economy is the 
consumer, but the consumer is almost spent out. Interest rates 
are as low as they are going to go right now. How many more 
mortgage refinancings can we have? Everyone has whatever money 
they are going to have in their pocket and we need companies to 
spend.
    So your argument is well taken, but at the same time, we 
need people to get excited and we need that foreign money, 
also, back into our stock market, because it keeps going out 
and companies can't spend and we need them to invest in high-
tech and get out there and upgrade all their systems.
    Senator Smith. Mr. Hubbard, did you all consider the 
corporate proposal as opposed to the individual proposal?
    Dr. Hubbard. Yes, Senator. I don't think it is politics so 
much as the principles in economics. If you think about it, if 
everybody paid the same rate of tax, say the corporate rate 
were the same as individual rates, nobody was tax-exempt 
anywhere, it really wouldn't matter in the simplest world 
whether you took the double tax away at the corporate level or 
the individual level.
    But, of course, there are a lot of tax-exempt and foreign 
shareholders and I think what the President said in his 
rhetoric is no double taxation. That means tax it once, not tax 
it not at all. To do that in the current environment would 
require individual relief. It also has the very important 
benefit that Ms. Kramer mentioned, which is in corporate 
governance. It really is a discipline to management to have to 
go to the capital markets to be monitored whenever new money is 
needed, to try to pay money out of corporate solutions.
    So I think the reasons to do it are entirely principled, 
although there are certainly good arguments for doing it at the 
corporate level, as well.
    Senator Smith. How about a combination of both? Was that 
ever considered?
    Dr. Hubbard. I don't think, again, you would want to do 
both in the sense that the goal here is to tax once and only 
once.
    Senator Smith. Hilary, you mentioned that we are competing 
against foreign nations, as well, and we have capital flight 
now, apparently. What is the policy in Europe, generally? What 
is the policy in Asia, generally, in terms of the taxation of 
dividends?
    Ms. Kramer. Well, we have the second-highest, the United 
States, taxation on dividends, only next to Japan. So Europe, 
the rest of the world, got savvy to this long ago, long ago.
    By the way, foreign companies that trade on our stock 
exchange, Senator, in the form of ADR, American Depository 
Receipts, they have gotten savvy to this. They are sort of 
looking from a distance and have realized the importance and 
significance that abolishing the double taxation dividend will 
have on raising their stock price, so they have jumped ahead in 
increasing their dividend. I have seen companies. Elbit 
Systems, Royal Dutch Petroleum, Unilever, British Petroleum, 
take a look at their dividend yields compared, let us say, ``To 
Exxon or Mobil and you will see that they know what is going on 
because they have experienced it themselves outside of the 
United States.''
    Senator Smith. I see this chart now. I think, Mr. Hubbard, 
you all have started a very important debate. I hope you will 
continue with it. Whether it is part of a stimulus package or 
not, I don't know at this point what is possible to get through 
the U.S. Senate, but eventually, this needs to happen for the 
sake of our markets and our system in the United States, in 
order to be competitive and, frankly, in order to pursue what 
will be much more productive tax policy. So if not in this 
Congress, I hope as soon as possible, and a lot of us are 
anxious to help you win this fight. Thank you.
    The Chairman. Thank you very much, Senator.
    Now let me turn to Senator Tom Carper of Delaware. Tom, 
welcome.
    Senator Carper. Mr. Chairman, good morning.
    The Chairman. Opening comment and/or questions, your 
pleasure.

             STATEMENT OF SENATOR THOMAS R. CARPER

    Senator Carper. First of all, let me say welcome to both of 
you. We are delighted that you are here and we thank you for 
your testimony and for your response to our questions.
    Before I was a Senator, I was a Governor, and I was 
privileged to be Governor of Delaware for 8 years. I inherited 
an economy that was in recession and we came out of that and 
had eight very, very good years. I was Governor when it was 
easy to be Governor. I used to say, ``With an economy this 
strong, even I look like I know what I am doing most days,'' 
and people would nod their heads and say, ``Yes, he does look 
like he knows what he is doing most days.''
    But we cut taxes, I think, 7 out of the 8 years I was 
Governor. We always had a litmus test for our tax cuts. One, 
they had to be stimulative to the economy, really, I think 
arguably, each time, create more jobs. We wanted to simplify 
the economy, so we didn't want to make it more complex; so that 
was another piece of our litmus test. I always wanted to make 
sure that the tax cuts were reasonably fair and broad-based. 
The last element of our litmus test was to say that we wanted 
to be able to sustain a balanced budget, so we didn't want what 
we were doing to unbalance our budget.
    I was elected State Treasurer back in 1976 at the tender 
age of 29. Pete DuPont was elected Governor that year. About a 
month or two later, we ended up getting the worst credit rating 
in the country. Pete DuPont's first State of the State message 
said Delaware is bankrupt, and he was trying to get the 
legislators to focus on the spending side. They really didn't 
focus that much, but the folks up on Wall Street focused a lot 
and they lowered our credit rating the next week to the lowest 
in the country, and we were crowded out of the credit markets.
    We had the worst credit rating in the country, tied for 
dead last with Puerto Rico. They were embarrassed to be in our 
company. When I stepped down as Governor, we had gotten a AAA 
credit rating, so I am somebody who thinks a little bit about 
these issues and have worked a little bit in these vineyards.
    I want to ask a couple of questions, and just be thinking 
about these. First of all, when we issued the debt in my State, 
we could issue it as a credit rating B-AA-1, which is what we 
were in 1977, to today having a AAA. As you might imagine, it 
makes a difference, what your credit rating is. One of the 
questions I want to ask, but not just yet, is what effect will 
the President's proposals have on issues of tax-exempt bonds, 
State, local governments, counties, cities, so forth, school 
districts?
    Second, I want to just kind of go back and look at the last 
couple of years. I say this not as an economist, because that 
is really your specialty, but I have studied a little bit in 
that area and I am fascinated by getting the economy moving and 
cycles, economic ups and downs.
    Mike Castle, who was our Governor, succeeded me as 
Congressman--I took his job in 1992 as Governor as we kind of 
swapped places. He now serves as our Congressman. We were 
invited back by the Delaware Business Roundtable last month to 
speak to them like we used to do when we were Governors. One of 
the questions I asked of all the CEOs there from Delaware 
businesses, including some pretty big businesses, I said, 
``What do we need to be doing, Congressman Castle and myself, 
to help in our jobs in Washington to get the economy moving?'' 
The President had just laid out his proposal and I was looking 
at them to comment on the proposal.
    They didn't really have much comment on the President's 
proposal, which had just literally been put on the table, I 
think, the day before. They talked a lot about uncertainty, 
though. They talked about the fact that while the elections 
were over, that uncertainty was behind us, the uncertainty with 
respect to Iraq, the uncertainty with respect to North Korea 
are still with us. We talked about the uncertainty that still 
flowed out of potential terrorist attacks or reprisals, whether 
we went to war with Iraq or did not.
    Several of them raised concerns about uncertainty with 
respect to the stock market and what were we going to do with 
the SEC, who is going to be the head of the SEC, will they be 
tough and will they restore investor confidence? A couple of 
them talked about Afghanistan.
    A number of them talked about health care costs and how 
their health care costs for their employees and health care 
costs for their pensioners were really hurting them on their 
bottom line and those were the issues they talked about. I 
couldn't get them to talk a lot about tax cuts, but they talked 
about those other issues and they really focused on 
uncertainty.
    We have cut taxes in 2001 by a fair amount. We cut them 
again by not as much in 2002, and the administration has come 
forward with another proposal to cut taxes in 2003. What I am 
hearing from some of our business folks is the idea of trying 
to do away with the double taxation of dividends, which I think 
is laudable could be done in a better way. Some folks say, 
``You ought to let businesses expense their dividend payments 
just as they do their interest payments.'' So I am not sure 
what is the best way to do it, but I think in the context of 
overall tax reform, it actually makes pretty good sense.
    Some folks on my side, Mr. Chairman, complain about the tax 
cut proposal and say, ``Well, there they go again, unfair, 
class warfare, helps the rich, doesn't help the middle-income 
folks.'' As it turns out, wealthy people actually do pay a lot 
of taxes. If we are going to get some tax cuts, they are going 
to get some of the benefit, and I think it is hard to argue 
with that.
    That was kind of my opening statement, Mr. Chairman. 
[Laughter.]
    What I would now like to do is just ask a couple of 
questions, and I will go back to the first one and I will 
telegraph the others.
    The Chairman. The Chairman will be tolerant and lenient, 
especially in light of the last portion of your overall 
comments. [Laughter.]
    Senator Carper. Thank you, Mr. Chairman.
    The Chairman. Please proceed.
    Senator Carper. Thanks a lot. I want to ask you to take up 
with me the effect of the issue of tax-exempt bonds. States are 
struggling. My State is not in as bad of shape as some others, 
but some of the States are just getting killed right now and 
they are looking to us to help them on their health care costs, 
they are looking for us to help them fund No Child Left Behind, 
they are looking for us to help them on funding first 
responders and all that stuff. But talk first about the effect 
of this proposal, eliminating the double taxation of dividends, 
how will that affect issuers of tax-exempt bonds? When they 
come to us and say, ``God, help us, don't do that, that doesn't 
really help us,'' what do we say? What do you say?
    Dr. Hubbard. Let me start, if I might, with a story I told 
the Bond Market Association on the same question. Suppose we 
were all sitting in 1975 and I told you that I had perfect 
foresight, I could tell the future, what is going to happen to 
marginal tax rates over time, what is going to happen to 
financial innovation. If I told you that future and you were in 
the muni bond business, you would have grabbed your chest and 
run for the door because there would have been big see-saws and 
tax rates and----
    Senator Carper. What year?
    Dr. Hubbard. Nineteen-seventy-five, but you can pick 
another year if you like one better.
    Senator Carper. That is a good one.
    Dr. Hubbard. But just the notion there that there are major 
changes in tax rates that have not had overly adverse effects 
on the muni bond market.
    To your question, if you are a State, there are really 
three things at issue here. One are the yields on muni bonds. 
The second is the effect on your tax base if the Congress went 
along with the President's proposal and exempted dividends. and 
the third would be the effects on economic growth and State 
revenues. Let me start with the last and work back.
    We have estimated at the Council that State revenues would 
be higher by about $6 billion a year. Most States are a little 
more than one-for-one responsive to State income. We have done 
this State-by-State. I don't have Delaware on the top of my 
head, but I would be happy to get it for you.
    Muni bond yields, we feel, would go up by minimal amounts. 
The largest effects we have been able to get would be 10 to 15 
basis points, and that is from both the acceleration of the 
marginal rate cuts and eliminating the double tax, which is 
just to say our capital markets are very liquid, indeed. So I 
know this concern is raised and it is important to raise the 
concern, but it is also important to net that against growth 
effects that we believe are much, much larger.
    Senator Carper. All right, good.
    Ms. Kramer, any comment at all on this one? You can take a 
pass if you want.
    Ms. Kramer. Have you been to Knott's Berry Farm? It is an 
amusement park.
    Senator Carper. You know, I have not.
    Ms. Kramer. OK. The company is Cedar Fair----
    Senator Carper. California, right?
    Ms. Kramer [continuing]. Ticker FUN, F-U-N. Actually, they 
are based in Sandusky, OH, a 7.5 percent dividend yield, and a 
company that is 140 years old that has served six, seven, eight 
generations of families. When people go to Cedar Fair Park or 
Knott's Berry Farm, they are still going to drive on the roads 
and they are going to pay the tolls and they are still going to 
use whatever city services, State services. I mean, the pie is 
only going to get bigger. People are still going to buy 
municipal bonds. I am still going to have municipal bonds in my 
portfolio and I am still going to recommend it as an important 
part of everyone's portfolio core holding.
    Now, any issues with municipal bonds and any potential 
problems in the future, Senator, may not have anything to do 
with abolishing the double taxation on dividend. It is going to 
have to do with the fact that people are paying less State 
taxes because there are more people that are unemployed and 
there are companies that are not doing well and they are not 
selling their products as fast and as profitably as they had in 
the past. Thank you.
    Senator Carper. Thank you. The other question that I tried 
to telegraph, and let me just come back to it, and someone may 
have raised it before me, and if they have, I apologize, but 
there are a couple of different ways to skin this cat. Some 
have said, ``No, the way the President wants to do it is 
probably not the best way.'' The best way to do it is to allow 
corporations who have a dividend to expense those dividend 
payments like they expense their interest payments from their 
debt.
    Could you just comment for me, I am sure you considered 
that as an option, and just maybe the relative merits of either 
approach and why you chose the approach you have chosen?
    Dr. Hubbard. Sure. It did come up, but I would like to go 
over it again with you, with Senator Craig's indulgence. 
Basically, the Business Roundtable for the country, and I can't 
speak for the business people you spoke with, but the Business 
Roundtable has endorsed the way the President did his plan for 
removing the double tax, and I think from the President's 
perspective, this reflected a principled concern that you only 
want to tax income once. It turns out if that is your 
principle, you are really driven to do this at the individual 
level, because if you do corporate-level relief, you won't tax 
much of the income at all because it will simply flow to tax-
exempt or foreign shareholders. So the President was very 
serious in sticking to that principle.
    It also provides very important corporate governance 
benefits, because facing the judgment of the capital market, 
paying out funds and having to go back to the capital market if 
you have a good project, is discipline that I think many 
corporate finance specialists would believe is heartily needed 
in corporate America.
    Obviously, removing the double tax is, we believe, very 
important. There are many ways to do it, but those were the 
principled reasons the President picked his way.
    Senator Carper. Maybe one last comment, Mr. Chairman----
    The Chairman. Please.
    Senator Carper [continuing]. I will be done. My mom is 80 
years old and she doesn't have much in the way of investments, 
but she has a few. She has Alzheimer's disease these days and 
she is not really cognizant of really what she has, but she has 
two grandsons. I will never be able to have this conversation 
with her because of her condition, but it would be interesting 
to ask her, Mom, how would you feel about not having to pay 
taxes on dividend income, or how do you feel about your 
grandsons paying more taxes further down the road because we 
have not done a very good job managing our budget deficits?
    I worry a whole lot about budget deficits. I know some 
people say they don't amount to much and it is not something we 
ought to be concerned about, but when we went as a country 
from, gosh, was it 1969 to, I want to say, ``1998 or 1999 and 
never had a balanced budget and finally got into a way of 
having balanced budgets again, which I thought was good--and I 
am not one who worships at the altar of balanced budgets.''
    Senator Craig and I, a long time ago in an earlier role, he 
and I worked very hard on a balanced budget amendment to the 
Constitution, almost got it approved in the House, not one that 
mandated a balanced budget every year, but one that said if you 
are going to unbalance the budget, you need a three-fifths vote 
in the House, three-fifths vote in the Senate. You need a 
three-fifths vote in order to raise the debt ceiling. By the 
way, the President had to propose a balanced budget, which I 
think is maybe the most important element of all. We got it 
close, but we didn't get it done.
    But I don't worship at the altar of balanced budget, though 
I think it is important. I am concerned as the CBO gives us the 
new budget estimates and deficit estimates for the rest of this 
decade that pretty much all we see is red ink and I find that 
troubling.
    The last thing I will say, ``I had a chat with Dan Crippen, 
outgoing CBO Director the other day, and we talked a bit about 
the impact of this proposal on the economy, or other tax 
proposals on the economy, and he put it in this context, which 
I thought was very interesting.'' He said, ``If you look at the 
economy for the next 10 years, it might be $10, $12, $14 
trillion--excuse me, $120, $140 trillion over the next 10 
years.'' He said, ``What you are looking at here is a tax cut 
of about $650 billion over the next 10 years.'' He said, ``Just 
to put it in context, and take $140 trillion versus $650 
billion, it is about a 65-cent change on $140, a 65-cent 
impact, not percent impact but cent impact, on $140.''
    He said, ``Sometimes we delude ourselves into thinking that 
the tax cuts that we make here are going to have some huge 
effect, but sometimes they really don't.'' They make us feel 
better. Maybe it is the psychology that Ms. Kramer talked 
about. Maybe psychology is a helpful thing for the economy. But 
in terms of actually stimulating the economy, a far better 
stimulus is probably resolving these uncertainties that we 
talked about, getting the price of oil down and having some 
certainty on the price and availability of energy.
    With that, I will say thank you. It was great to see you 
both and we welcome your presence here. It is just a real 
pleasure. I read a lot about you, Mr. Hubbard, and it is just a 
real pleasure to have a chance to actually meet you.
    Dr. Hubbard. Could I actually try to answer your question, 
if it is----
    Senator Carper. I didn't ask a question there, but---- 
[Laughter.]
    Dr. Hubbard. You had an interrogatory----
    Senator Carper. But----
    Dr. Hubbard. With your indulgence, because you posed what I 
think is the best analogy when you raise the issue of your 
mother and grandchildren. The administration obviously shares 
the concerns about deficits, but the human element of this is 
very important because this isn't about dividend recipients. It 
is about the economy's future and economic growth, so that is 
precisely the right point. We believe that the wages and the 
incomes of her grandsons are going to be much higher as a 
result of what the President is proposing, and that is exactly 
what we are about.
    Dan Crippen is right. Economies are large. You don't steer 
battleships easily. But what you can do is set the right 
environment for growth, and that is what the President is 
trying to do.
    Senator Carper. My thanks to both of you. Mr. Chairman, 
thank you for your indulgence.
    The Chairman. Well, thank you, Senator. Tom is right. Both 
he and I partnered up in the House to aggressively advocate in 
the decade of the 1980's a balanced budget, and I must tell 
you, I was very pleased in the post-1994, 1995, 1996 period 
when we got there with the help of some fiscal responsibility 
here and some great growth in the economy. I must tell you, I 
would be the first to agree with you that a $307 billion 
deficit budget as proposed yesterday is very perplexing to this 
conservative Republican. We will work our way through it.
    Panelists, thank you so much for being with us today. Dr. 
Hubbard, we thank you, not only for your openness, but your 
insight into a broader aspect of double taxation as it relates 
to dividends that I think many people miss in the overall 
gaming of the issue. While this is a committee that deals with 
the concerns of aging Americans, we clearly know that a strong 
economy is the best that can ever happen to a senior citizen 
because it stabilizes all aspects of the world around them, 
including their income, and that is of real concern and 
importance to us, so we thank you.
    Ms. Kramer, thank you for your openness, your 
outspokenness, your advocacy, and keep up the issue of 
championing this cause. I think it is the right cause, and in 
this instance, for elderly Americans, it certainly is a very 
important cause. Thank you.
    The Chairman. Let us move now to our second panel. Please 
take a seat, gentlemen, and we will proceed.
    We will first start with Dick Buxton, a constituent of mine 
from Idaho who will describe the impact of double taxation on 
his family in Idaho.
    Then we will turn to Dr. Dan Mitchell, a tax reform expert 
from the Heritage Foundation.
    Last, but certainly not least in all of this discussion, 
Dr. Mark Crain, Professor of Economics at George Mason 
University and a trustee for the Virginia Retirement System.
    Gentlemen, thank you very much. Dick, please proceed.

              STATEMENT OF DICK BUXTON, BOISE, ID

    Mr. Buxton. Good morning. My name is Dick Buxton and I am 
from Boise, ID. I am a graduate of the United States Naval 
Academy, Class of 1959, and have retired as manager from U.S. 
West, now Quest, and as a Captain in the Naval Reserve. Since 
retirement, I have worked several different businesses, to 
include teaching in the public schools. I wish to thank 
Chairman Craig and the other members of the committee for 
inviting me to testify about the issue of double taxation of 
seniors. Double taxation is basically immoral.
    We face double taxation on Social Security benefits. It 
used to be simple. Social Security was not taxed. But now, 
seniors pay a tax of 50 percent or 85 percent of income over a 
certain amount. This is not fair.
    Seniors also face double taxation on dividend income. 
Companies pay income tax and folks who receive dividends pay 
individual income tax on those same earnings, as well.
    I don't have a lot of dividend income, maybe a few hundred 
dollars a year. I also purchased IRAs and have some mutual 
funds. It is my understanding that IRA dividends will not 
benefit from the removal of the double taxation on dividends.
    But my 89-year-old father, who is a retired railroad 
switchman living in Caldwell, ID, depends on his dividends. He 
purchased stocks such as Idaho Power, energy stocks and utility 
stocks, and has income stocks to supplement his railroad 
retirement income. The removal of the double taxation on 
dividends will be of great benefit.
    My 91-year-old mother-in-law, a retired school teacher, 
also depends a great deal on her dividends. She has invested in 
utility and other dividend-paying stocks that provide a large 
portion of her retirement income. The removal of the double 
taxation on dividends will be of great benefit.
    Finally, when someone dies, the government taxes what might 
be left over. Making the tax-free limit of up to $600,000--I 
believe this is increasing, and Senator Symms was kind of 
involved in that when he was in the Senate, especially for 
people who own family farms and small businesses. Increasing 
the tax-free limit will help hold these farms and businesses 
together after the founder dies.
    There are reasons I support the President's proposal to 
give tax relief to all Americans. His plan should open the eyes 
of investors in stocks that the objective of business is to 
make a profit. In my view, a major cause of the stock market 
decline and the corporate breach of trust can be attributed to 
high degrees of speculation in tech stocks that were losing 
money. Companies that pay dividends usually have to make a 
profit, and most of these companies do make a profit.
    In the last few years, stocks were hard to follow. Illinois 
Power became Dynergy and went from a high-dividend stock to a 
stock with a big increase in stock value and later decimated. 
With the debacle of Enron, many stocks in energy trading and 
telecommunications were decimated. These stocks, for the most 
part, were highly speculative. With the elimination of the 
double taxation of dividends, analysts should be more honest in 
their stock evaluation endeavors and people purchasing stock 
should be more aware of the stocks they are purchasing.
    I am not an accountant, but I have made a point of doing my 
own taxes to more fully understand and be directly 
knowledgeable of the contents of my tax return. I also do my 
parents' return.
    Thank you, Senator Craig and the committee, for allowing me 
to testify.
    The Chairman. Dick, thank you for traveling from Boise to 
be here to testify. I think it is important to recognize when 
we talk about the impact on seniors, and there will be some who 
will speculate that this kind of double taxation issue will 
only affect the rich, I doubt that your retired railworker 
father, is it?
    Mr. Buxton. That is correct.
    The Chairman [continuing]. Views himself as a wealthy man.
    Mr. Buxton. No. Senator Carper indicated that the effect on 
the States, he pays no State tax. He will benefit really from 
the other, though.
    The Chairman. Thank you. We will move to questions later, 
but it struck me and I thought that was the valuable part of 
your testimony, is there a broad range of folks out there who 
have the potential of benefiting.
    [The prepared statement of Mr. Buxton follows:]
    Me graphics 32 to 33 here
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    The Chairman. Now, let us turn to Dr. Dan Mitchell, tax 
reform expert with the Heritage Foundation. Thanks for being 
with us.

 STATEMENT OF DAN MITCHELL, McKENNA SENIOR FELLOW IN POLITICAL 
        ECONOMY, THE HERITAGE FOUNDATION, WASHINGTON, DC

    Mr. Mitchell. Thank you very much, Senator, members of the 
committee. This is a very important topic. I am glad you are 
taking the time to look at it. With your indulgence, perhaps my 
full testimony could be submitted for the record and I can 
highlight some of the things that haven't already been covered, 
I think.
    The Chairman. Without objection, all of your texts will be 
a part of the record. Thank you.
    Mr. Mitchell. Both Glenn Hubbard and Ms. Kramer, I thought, 
did an excellent job.
    We do have a very serious problem with double taxation in 
this country. I don't know that it was designed to deliberately 
target the elderly, but they certainly are the ones that are 
bearing the brunt of the policies.
    I passed on to your staff a chart that I just did 
yesterday, so it wasn't part of the official testimony, showing 
that if a taxpayer spends his after-tax income, there is no 
additional Federal taxation on that decision. But if a taxpayer 
saves and invests, that same dollar of income can be taxed as 
many as four different times when you factor in the capital 
gains tax, the corporate income tax, the personal income tax, 
and the death tax, and that clearly is something that is bad 
for the economy.
    Every economic theory, even Marxism, they all agree with 
the notion that capital formation is the key to long-run growth 
and higher living standards. It is the common sense notion of 
setting aside some seed corn so you can have greater production 
and greater living standards in the future, and that is what I 
think the President is trying to do with his tax plan, not only 
eliminating the double tax on dividends, but also the policy to 
try to provide relief from the double taxation for savings with 
the lifetime savings accounts, and, of course, 2 years ago, the 
elimination, at least hoped-for elimination, of the death tax.
    Let me talk a little bit about how these policies affect 
senior citizens. The death tax, as we all know, is imposed upon 
a taxpayer's assets upon death if they have assets above a 
certain level. That is clearly double taxation, maybe even 
triple or quadruple taxation, because those assets were 
purchased with after-tax dollars.
    The tax on Social Security is another example of double 
taxation. Under current law, 50 percent of Social Security 
payroll taxes are deductible, the corporate side. Anything 
above and beyond taxing 50 percent of benefits clearly would be 
an example of double taxation. Some people even make the 
argument that any tax at all would be an example of double 
taxation. But certainly, what happened in 1993 shifts from 
neutral treatment, at best, to double taxation.
    Then, of course, we have the example of the double tax on 
dividends. Again, I think the chart from the data put together 
by the Cato Institute from OECD data highlights not only that 
this is double taxation, but it is very, very damaging in terms 
of America's competitive position in the global economy, and on 
the issue of what is short-term stimulus, long-term growth, I 
agree that those things shouldn't be separated. Good long-term 
policy is good short-term policy.
    But I will note that in terms of eliminating the double 
taxation on dividends, we live in a very competitive global 
economy now. If we make the right decisions in our economy, our 
ability to attract capital to the U.S. economy is much bigger 
than it was perhaps 20 years ago. In other words, with the 
economy the way it is today around the world, the rewards of 
good policy are magnified more than they were in the past and 
the punishment for bad policy is magnified more than it was in 
the past. There is a reason why France is suffering the 
economic stagnation they are suffering, why Germany, why Japan, 
why countries like that are suffering, whereas other countries 
that are reforming their tax codes, reducing the burden of 
government, why they are doing so well.
    Let me talk a little bit about increasing economic growth. 
In my full testimony, I cite a number of different papers by 
academics looking at the economic growth impact. I look for the 
Heritage Foundation. Allow me just to cite what our number-
crunchers in the Center for Data Analysis came up with, that 
the President's proposal would increase the employment level by 
an average of more than 300,000 jobs a year, increase GDP by an 
average of $40 billion, increase business equipment new 
purchases by $32 billion a year.
    Also, very importantly, because you are getting additional 
economic growth from fixing the double taxation of dividends, 
you will get revenue feedback. Our Heritage number-crunchers 
estimate that the dynamic cost of the tax cut is only about 
one-third of the static cost of the tax cut.
    Let me go ahead and touch on the death tax real quickly. 
Again, we see numbers, not only from all the academics, but 
again from our people at Heritage, showing higher GDP, more 
jobs in our economy, increases in disposable income for 
workers.
    On the issue of Social Security benefits, unfortunately, 
there isn't a lot of data out there. We made a search of the 
literature. It is not something that has been pored over. But 
as an economist, I am perfectly happy to stick with theory, and 
one important thing about the double tax on Social Security 
benefits, you only pay that tax if you have non-Social Security 
income that pushes you up into that $25,000 range, and then, of 
course, the $34,000 and up for the 85 percent tax. So, in other 
words, it is only if a taxpayer, an elderly taxpayer, is 
providing labor and capital to the economy that that taxpayer 
is going to get hit by this double tax of Social Security 
benefits, and that, of course, means that there must be some 
adverse economic impact, although, again, I am sorry to say 
that we don't have a whole lot of research out there that 
allows us to put our finger on that.
    With that, I see that the red light is on. Why don't I go 
ahead and turn it back over to you, Mr. Chairman.
    The Chairman. Thank you very much.
    [The prepared statement of Mr. Mitchell follows:]
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    The Chairman. Now, let us turn to Dr. Mark Crain, a 
Professor of Economics at George Mason University. Doctor, 
welcome.

   STATEMENT OF W. MARK CRAIN, DIRECTOR, CENTER FOR STUDY OF 
    PUBLIC CHOICE, AND PROFESSOR OF ECONOMICS, GEORGE MASON 
                    UNIVERSITY, FAIRFAX, VA

    Mr. Crain. Thank you, Mr. Chairman and Senator Carper. 
Thank you for inviting me.
    I really want to highlight three effects of the double 
taxation of dividends. The first is to highlight the economic 
distortions; second, to highlight the potential for improving 
corporate governance if dividends are excluded from taxation; 
and third, I would like to discuss some recently provided data 
from the Federal Reserve on the Survey of Consumer Finances 
that, I think, really illustrates this idea that older workers 
and seniors are likely to benefit disproportionately from the 
President's proposal to exclude dividends from taxation.
    I do want to maybe restate this, because I do think it is 
so important in this debate and it seems to have been missed, 
it has been emphasized but maybe hammering it home again is 
worth the effort here, and that is that the most important, I 
think, perspective here is the effect on the economy and that 
economy growth research now almost universally recognizes the 
fundamental role of well-functioning financial markets, and the 
reason is straightforward.
    Financial markets provide the mechanism whereby national 
savings are channeled into new investments in plants and 
equipment. The rate of investment determines the available 
capital stock per worker and whether that is going to increase, 
decrease, or remain the same,  and the  amount  of capital per 
worker  is the critical determinant of how much the Nation 
produces, and how much the Nation produces ultimately 
determines our standard of living.
    The current system that taxes shareholders twice, once at 
the corporate level and once at the shareholder level, is a bad 
policy, and this policy of double taxation affects capital 
markets and thereby limits living standards in two ways. First, 
it is going to reduce the rate of permanent investments that 
would be lower than they would be without double taxation, and 
second, even for a given amount of savings, double taxation 
distorts incentives in financial markets to channel these funds 
into investment activities that would produce the highest 
return, that is, those investment activities that would be most 
productive and generate the highest returns.
    Now, on the first point, the elasticity of savings 
investment with respect to the taxation rate, the empirical 
evidence is a little mixed on that. I think if you have a 
cautious reading, we might say there might not be a major 
response in terms of the total amount of investment. But on the 
second point, the impact of double taxation on the efficiency 
of capital markets, the evidence and the theoretical analysis 
is compelling.
    First, double taxation creates an incentive to invest in 
non-corporate rather than corporate businesses. Second, it 
creates an incentive to finance the corporate investments with 
debt rather than new equity. Third, corporations have distorted 
incentives to retain earnings and thereby avoid the double tax.
    There are some quite important empirical analyses of these 
effects and I think the results, again, are quite convincing, 
that the effect of the reduction of dividend taxations would 
increase dividend payouts, would increase corporate spending on 
investments, and reduce the firms' cost of capital. In other 
words, reducing or eliminating dividend taxation facilitates 
the incentive of corporations to raise equity capital as 
opposed to debt finance capital and this gets channeled into 
the purchase of new plants and equipment.
    The effect has been stressed here before that increasing, 
or reducing the tax would also increase dividend payouts, and 
this adds liquidity to the capital market in the sense that 
earnings that were otherwise retained within the firm are now 
going to be unlocked and put back into the hands of 
shareholders to invest that capital in other higher-return 
opportunities.
    The effects on corporate governance have been stressed. 
Paying dividends is an easy way to monitor corporate 
performance. It really reduces the cost of monitoring corporate 
governance and we would expect there to be, with the lower 
cost, to be more of that monitoring of corporate governance, 
and I think we would see broad effects and improvements in 
corporate governance in the several ways that have been 
mentioned.
    Finally, Mr. Chairman, and I won't have time to go through 
all these, maybe we can come to them in the questions, but I 
have provided three tables from the January data on the Survey 
of Consumer Finances which show a breakdown of the holdings of 
corporate equity, of stock by age group, and essentially, these 
data reflect this life cycle behavior of asset accumulation 
that Dr. Hubbard talked about, over one's lifetime, how you 
begin to accumulate assets and that by the time you hit 
retirement age, above 65, you have accumulated a substantial 
amount of equity holdings.
    In fact, in 2001, the latest data reveal that the median 
holding of equities was $150,000 for individuals 65 and older, 
which was almost double the size of the next cohort group. So 
seniors are heavily invested in the stock market, the latest 
data reveal, and I think that these proposals to cut the 
dividend tax and to improve capital markets will have a major 
impact on seniors who hold a lot of this stock market wealth.
    Thank you, Mr. Chairman.
    The Chairman. Doctor, thank you.
    [The prepared statement of Mr. Crain follows:]
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    The Chairman. Thank you all very much. Dr. Mitchell, Dr. 
Crain, I am going to ask some questions of both of you that I 
would appreciate your responding to.
    In Dr. Hubbard's testimony, he said that the double 
taxation elimination could, in the end--and I thought this was 
very fascinating, an aspect of it I did not understand--could 
reduce the cost of capital anywhere from 10 to 25 percent. Do 
you agree with that statement?
    Mr. Crain. I agree in the sense that I believe he was 
talking about the corporations, and I think that----
    The Chairman. He was----
    Mr. Crain [continuing]. That is the----
    The Chairman. But he was also, therefore, as I understood 
it, and you can follow me up on this, therefore talking about 
investment, therefore talking about corporate stability, 
therefore talking about stock market stability, therefore 
talking about growth in the economy.
    Mr. Crain. Absolutely, and I think part of that is this 
distortion caused by the tax, which causes funds to go into 
either debt-financed capital or investments in other types of 
activities, real estate, other types of investments rather than 
corporate investments, and the idea here would be that those 
investments would be more productive and, by reducing the tax, 
would attract capital to the numbers he gave back into 
corporate investments.
    The Chairman. Do you agree with that?
    Mr. Mitchell. I agree with Dr. Hubbard's testimony. When 
individuals are looking whether to invest, they are making that 
decision based on what the after-tax income they expect to 
receive is, compared to the amount of consumption that they are 
currently willing to forego by setting that money aside and 
investing it. People invest in hopes of making a profit.
    I forget, I think it was Senator Hatch who said, or Senator 
Smith, ``That if you tax something once, you are going to get 
less of it.'' If you double tax it, you are going to get doubly 
less of it. When we are looking at whether corporations are 
able to attract capital at reasonable cost, investors obviously 
are less willing to provide capital when you have these two 
layers of tax imposed upon that income, not to mention then you 
have to factor in that a lot of these people are also going to 
be hit by the death tax and other forms of taxation, as well.
    The Chairman. While this question was not asked, and I am 
not sure that in her testimony Ms. Kramer mentioned it, 
although we were visiting about it earlier, the impact of the 
elimination of double taxation on that senior, let us say, 
using your chart, Dr. Crain, who has got an investment at age 
65 of about $150,000 worth of assets or stock, and he or she or 
they are being taxed on it today, not only would the tax 
elimination there obviously benefit them directly by less taxes 
paid, but Ms. Kramer makes the argument that corporate America 
more than likely, with the enhancement of the environment in 
which dividends are paid, would end up paying more dividends or 
it would become more attractive for corporations to do that 
and, therefore, would cause investors to seek out companies 
that paid higher dividends.
    Is there a scenario there in your mind where not only does 
the senior benefit from not paying a tax in this doubly taxed 
environment, but could actually gain more dividend receipt?
    Mr. Crain. Absolutely, in that it is--the analogy to static 
analysis was mentioned, in the sense it is hard to say exactly 
right now how senior citizens would behave if dividends were 
not taxed, surely they would invest more in dividend-paying 
companies if the law were changed. So you can't really look at 
the data today to get a handle on that because investment 
behavior would change if you eliminated the double taxation. 
More seniors would invest in these non-taxable dividends, as 
everyone would.
    The Chairman. Part of my question, though, was would there 
be a higher rate of dividend return on the current investment? 
Would it change the corporate environment in that way?
    Mr. Crain. By eliminating the tax, yes, you are going to 
encourage more dividend payments and it would raise the return.
    The Chairman. Do you agree with that, Doctor?
    Mr. Mitchell. Yes, I do, and we also have some 
international evidence to this effect. Many of the countries 
that are in the lower range of the chart over there, that have 
much lower combined tax rates on dividends, used to make the 
same mistake we made about double taxing dividends, or at least 
of having less relief, and in my full testimony, you will see 
that New Zealand and Australia are two of the countries that 
eliminated double tax on dividends and there is already some 
evidence, even though we are only talking 10, 15 years of data, 
there is already some evidence that it has had a positive 
effect on both aggregate levels of investment in the economy 
and on dividend payment rates.
    We also see that--as a matter of fact, President Clinton's 
Treasury Secretary, Larry Summers, did a paper with another 
economist looking at what has happened when the United Kingdom 
made reforms to their dividend taxation, and again, we saw 
positive responses.
    Now, of course, it is always difficult to estimate ahead of 
time the level of these responses, and I think Mr. Hubbard was 
being very responsible in giving a range, as opposed to trying 
to pick an exact number, but there is no question that his 
direction is the right direction in terms of the numbers he is 
talking about.
    The Chairman. Thank you.
    Senator Carper, questions?
    Senator Carper. Thanks, Mr. Chairman.
    Not so much a question, but to Mr. Buxton, I noted with 
interest that you are an old Navy guy.
    Mr. Buxton. Yes, sir.
    Senator Carper. I was a Navy Midshipman at Ohio State, 
graduated in 1968. When you were on active duty, what were your 
assignments?
    Mr. Buxton. I had a variety of assignments, but primarily, 
I am a qualified surface warfare officer.
    Senator Carper. What kind of ships did you serve on?
    Mr. Buxton. Destroyers, LPHs, the Valley Forge, Cone DD866.
    Senator Carper. I am a retired Captain, as well, so I feel 
a certain kinship with you. Your Governor out there is Dirk 
Kempthorne, who used to serve here in the Senate. I was 
Chairman of the National Governors Association when he first 
became Governor in 1998 and attended New Governors School in 
Wilmington, DE. I hope he is doing well. If you ever see him, 
tell him that an old Governor from Delaware sends his very 
best.
    Mr. Buxton. He is struggling with the tax issue, too.
    Senator Carper. I am sure he is. So are most of the 
Governors. A lot of the States, as you know----
    The Chairman. In fact, Tom, it is fascinating you make that 
comment. I think our Governor right now would find that it 
would be easier being a U.S. Senator than a Governor, where you 
found it very easy being a Governor during those great years of 
growth. Excuse me.
    Senator Carper. Absolutely, and most Governors would 
certainly agree with that, and that is not to say our load here 
is not heavy at times.
    You are from Boise, right?
    Mr. Buxton. Yes.
    Senator Carper. Your mayor, I think, Mayor Coles, used to, 
I believe, be the head of the Mayors Conference----
    Mr. Buxton. Last year.
    Senator Carper [continuing]. He was a very good partner of 
a number of us who were interested in passenger rail service. 
He was a great champion of that. So we think well of you and 
your State and it is a pleasure to serve with your Senators 
now.
    I guess the question I have--is this the last panel, Mr. 
Chairman?
    The Chairman. It is.
    Senator Carper. The first panel was the panel that included 
Dr. Hubbard and Ms. Kramer, is that correct?
    The Chairman. Yes.
    Senator Carper. I was just wondering, the five witnesses 
that we had before us today seemed to be pretty much in tune 
with one another and their message is consistent in supporting 
what the administration has proposed. I am just wondering, did 
we invite anybody with a contrary opinion?
    The Chairman. You had that opportunity, surely.
    Senator Carper. But we didn't take it up? We will have to 
do that, just to make things interesting.
    The Chairman. All of these hearings are balanced off with 
minority and majority staff in the selecting of witnesses and 
those kinds of things.
    Senator Carper. Next time, we will have to be sure that we 
suggest that. That is not to take anything away from the 
testimony of each of these witnesses. They are stimulating and 
provocative and interesting.
    I just want to conclude by saying thank you. I have no 
questions, but I want to thank each of you for coming and for 
sharing your thoughts with us, and a special welcome to my Navy 
buddy over there, Captain Buxton. Thank you for joining us.
    The Chairman. Tom, rest assured, I would be very happy to 
allow the record to show that the support of the President's 
proposal for eliminating double taxation on dividends is not 
unanimously supported, either in the Congress or the country, 
but I think it has us all scratching our heads at this moment 
and I think what our intent of this hearing was, not only the 
double taxation of seniors, but the increased double taxation 
of seniors in a variety of income levels that they have, and, 
of course, because they are fixed-income people, that there is 
substantial impact.
    What attracted me to this was when the President was 
proposing his package. He called it relief for seniors, and at 
the time, it had not really focused--I had not focused on the 
fact that we now have the figures that over 52 percent of the 
tax benefit would go to seniors, and we see that there is a 
broad cross-section out there that now hold investments--you 
can't call them wealthy if their whole life savings is tied up 
in a retirement program and $150,000 worth of assets in stocks. 
That is their life savings, if you will, and the impact that it 
is having on that.
    Dick, would your investment, or do you think your parents' 
investment would be different if they had recognized early on 
that dividends would not be double taxed?
    Mr. Buxton. No. I think that they invested, and their 
investment is primarily in energy stocks, utilities, was for a 
return on investment with dividends.
    The Chairman. But they were looking at it for purpose of 
dividend return, not speculation on stock values as much?
    Mr. Buxton. No. That is correct. No. Idaho Power pays a 
dividend of almost 6 or 7 percent, as you are probably well 
aware.
    The Chairman. Yes.
    Mr. Buxton. They are highly invested in Idaho Power and 
they did it for that reason.
    The Chairman. So for your family, owning stock that 
returned dividends was critical to their investment plan or 
strategy?
    Mr. Buxton. Even my own, I tried to invest in that. Of 
course, a lot of my stock is now in my IRA----
    The Chairman. Sure.
    Mr. Buxton.--which I still do that because I think that 
they are more responsible if they are paying a dividend.
    The Chairman. Thank you.
    Dr. Crain, your testimony discusses the potential for 
increasing returns for all investors if we end the double 
taxation of dividends, including those who have stock holdings 
in tax-deferred accounts. Could you elaborate on how these 
increased returns might occur?
    Mr. Crain. Yes, Senator. Broadly, through this improved 
efficiency of capital markets, for example, this change in the 
reliance on equity financing as opposed to debt financing that 
has been mentioned a couple of times today. Through the 
dividends, again, make it easier to monitor corporate 
performance and corporate governance, which I think is a major 
factor here that is going to increase and improve the returns, 
even in stocks that are held outside of--in a tax-deferred 
account.
    The Chairman. Does that mean this proposal will be a 
positive force for returns of defined benefit pension plans 
with company stock, including State pension plans and union 
pension plans?
    Mr. Crain. Absolutely, Senator. I chair the Corporate 
Governance Committee----
    The Chairman. That is where I was headed. Does this change 
the character of the thinking of that organization?
    Mr. Crain.--for the Virginia Retirement System, and 
sometimes, it is overlooked of how hard it is to really get 
information about what is going on inside a company. Even a 
large organization like the Virginia Retirement System, a $29 
billion plan, it is almost prohibitively expensive for us. We 
must hold stocks in 3,000 companies. How do you monitor all 
those? It is extremely costly to do that. This would reduce 
that cost, not only for us, but for all other plans in that we 
would see benefits, benefits in terms of improved performance 
of companies.
    Senator Carper was asking, I thought, a very good question 
about what is the tradeoff with the effect on States and their 
borrowing costs and so. But I do think, and this wasn't 
mentioned by Dr. Hubbard, is that States have an enormous 
liability to their pension plans. The States are going to have 
to pay that if the returns don't come in to fund those plans. 
The taxpayers will ultimately be liable to pay those benefits, 
and here is a way to help fund, fully fund the plans and, I 
think, reduce the liability on future taxpayers in the States.
    The Chairman. Thank you very much.
    Let me turn to our colleague who has just joined us from 
the State of Missouri, Senator Talent. Welcome.

              STATEMENT OF SENATOR JAMES M. TALENT

    Senator Talent. Thank you, Mr. Chairman. My apologies for 
being late. I did want to attend this hearing and I want to 
congratulate you and Senator Breaux on the direction you are 
taking the committee. I really sought, as you know, to be on 
this committee, because I think a lot of the issues that we are 
going to be exploring are just second to none in terms of 
importance to America as a whole, as well as the nation's 
seniors.
    The thing I am concerned about is what is going to happen 
to people who are now at or entering middle age and have, to 
this point, planned their lives on certain assumptions about 
the position seniors have been in in the past, assumptions 
which I think are generally not going to be true at the time 
that they are retiring, and we had a hearing which I think 
Senator Breaux originally scheduled on Social Security.
    One of the answers, and I think we are going to have to 
package a lot of answers to that, but one part of the answer is 
to really publicize to people the need to prepare themselves 
more for retirement than they had thought they might have to 
and then empower them to do it. I see the subject of this 
hearing as an avenue of accomplishing that.
    Now, let me just ask you, and I don't know, if this has 
come up, I apologize and maybe just deal with it and dispose of 
it briefly, but the taxation of Social Security benefits, which 
I hear about all the time back home. Seniors really don't like 
it. Have any of you commented on a feature of it that I think 
is particularly unfair, because payroll taxes are supposed to 
go to Social Security and Medicare, and except for the surplus 
that we spend on other things, they do. But when you tax the 
Social Security benefits, isn't that just a way, really, of 
converting the payroll tax into a general tax?
    I mean, you collect the payroll tax, you pay the Social 
Security benefits, you tax the Social Security benefits, and 
then that money comes into the general revenue. Seniors back 
home have figured this out. Am I wrong in saying that? Isn't 
that the effect of taxing Social Security benefits?
    The Chairman. Gentlemen?
    Mr. Mitchell. Under current law, Social Security payroll 
taxes are 50 percent deductible, the so-called employer half of 
it. If you want a neutral tax system, in other words, if you 
want to treat Social Security the way you would treat savings 
under a neutral tax code, then the benefits should be 50 
percent taxable.
    So it is very clear that the tax increase on benefits that 
was enacted in 1993 does represent double taxation of those 
benefits, and as was discussed a little bit earlier, that will 
have some adverse consequences on the economy because people 
only pay that double tax if they have non-Social Security 
income by either providing labor or capital to the marketplace. 
So it is double taxation and it is double taxation that, like 
other forms of double taxation, undermines the economy's 
performance.
    Senator Talent. And pulls the money, Mr. Chairman, out of, 
if you will, the use for which it was originally intended. I 
mean, it is not like the money that we collect through that tax 
we then turn around and use for other kinds of senior programs 
necessarily. It goes in the general fund with everything else. 
So the effect of it is to take the payroll tax and use it for 
other kinds of measures.
    I thank the Chairman for hosting this. Again, I am sorry 
for being late. I intend to look through your statements. This 
is an important subject, and I know we are planning to do 
hearings on a number of other subjects, Mr. Chairman, to 
examine where we need to be 15 or 20 years from now in order to 
have a viable and high-quality system that cares and meets the 
needs of the seniors of the next generation, and I thank you, 
Mr. Chairman.
    The Chairman. I thank you very much. I think the hearing 
that Senator Breaux chaired a couple of weeks ago as we looked 
at the overall view of Social Security and we had General 
Accounting up, I mean, it was obvious to us then, and I think 
we all agreed, that the ``do nothing'' strategy just does not 
work, and at some point in the very near future, hopefully, we 
wrestle through the tough choices there.
    Senator Talent. Mr. Chairman, will you yield on that point?
    The Chairman. I would be happy to.
    Senator Talent. I mean, one other area, for example, I am 
very interested in, and you and I have talked about this 
privately, is what the spectrum of services and care of a long-
term nature needs to be for seniors 10, 15, 20 years from now, 
you know, everything from assisted living to independent living 
centers to long-term care, and how do we get people from here 
to there. Part of that is going to be empowering people and 
urging them to save on their own for those kinds of 
alternatives.
    So I see all this as a seamless web, as we lawyers say 
periodically, and each one of these hearings has part of the 
kind of decisions we are going to have to confront soon if we 
are going to be effective in helping the nation's seniors.
    Thank you. You have been very patient, Mr. Chairman.
    The Chairman. I thank you and I think your point is very 
real, even though when we talk of Social Security and today 
talking about double taxation of dividends, what is obvious is 
that there is a very real impact on today's wage earners. Even 
though they may not be the subject of the tax or the person who 
is the immediate recipient of the program, it does impact, and 
you have all said that, wages, job opportunity, the general 
economy itself, and that is all an important part of it.
    Of course, the thing that I have grown increasingly 
concerned about--it is part of the reason I am on this 
committee--the beautiful thing that is going on out there right 
now, I just penned a note this morning to a neighbor of mine 
who celebrated his 90th birthday at the Weiser, Idaho, Senior 
Citizen Center on Sunday. He walked in under his own power. He 
drove his own car with his wife. He is having a great time in 
life. His problem is, and it is a beautiful problem, he had 
eight children, and if he has got those kinds of genes, he has 
probably produced eight children that are going to live to be 
90-plus and they are going to drain Social Security. 
[Laughter.]
    Unless we reform it to respond to the demographics, Senator 
Talent, that you have spoken to and the very reality of the 
community that we are dealing with here.
    Thank you all very much to our panelists. Thank you very 
much for being here. Dick, thank you for coming from Boise.
    The committee will stand adjourned.
    [Whereupon, at 11:59 a.m., the committee was adjourned.]

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