COLUMN: Obama and the ghost of Walter Mondale

By Reihan Salam

Sept 6 (Reuters) - When Barack Obama accepts the Democratic presidential nomination in Charlotte, he will no doubt channel party heroes of the past like Bill Clinton and JFK and FDR, all of whom are celebrated still for their charisma and raw political skills. But he would do well to heed the wisdom of Walter Mondale.

Yes, that's right. Most Democrats see Mondale as a faintly embarrassing relic from an era in which Democrats had lost their way, and of course there is something to that. He was also one of the last Democrats to make the case that government was worth paying for, not just by the rich but also by the middle-income households that rely on expensive social programs.

By the summer of 1984, Mondale, the former Minnesota senator who had served as vice-president under Jimmy Carter, knew that he was facing an uphill battle for the White House. The brutal Reagan recession had given way to a V-shaped Reagan recovery, and Reagan Democrats were thick on the ground. So Mondale decided to do something very strange at that year's Democratic National Convention. Rather than make the most anodyne, ultra-cautious, poll-tested argument he and his team could conjure up, he told the truth as he understood it. "Mr. Reagan will raise your taxes," he told the assembled delegates. "And so will I."

Mondale lambasted Reagan for his secret tax plan that would "sock it to average-income families" and "leave his rich friends alone," just as critics of the Romney-Ryan ticket have alleged that the GOP's conspicuously vague tax reform ideas would almost certainly mean shifting the tax burden downward.

Yet the really interesting part of Mondale's tax plan that year is that it didn't just raise taxes on America's highest-earning households. In an era of relatively high inflation, during which "bracket creep" was a big concern for middle-income families, he called for limiting the indexing of tax brackets for roughly half of all households, a step that raised most of the revenue he hoped to generate from individual taxpayers. There were, to be sure, steeper tax increases for high-income households, but Mondale maintained that all non-poor families should chip in to tackle yawning deficits and to make the investments he believed were necessary to foster "the best-educated, best-trained generation in American history."

That fall, of course, Mondale suffered a crushing defeat at the hands of a sunny, upbeat Ronald Reagan, who, as it turned out, really did raise taxes in his second term. Reagan's grand ideas for containing the growth of spending - which included an ambitious swap of responsibilities between the federal and state governments and building on President Carter's tough reforms of Social Security Disability Insurance in the middle of an economic downturn, to name only two politically explosive money-savers - had been bitterly opposed by Congress and largely abandoned by the mid-1980s. Accepting tax increases was a price Reagan was willing to pay to continue waging his war on Soviet Communism.

In 1985, coming off his huge electoral triumph, President Reagan actually campaigned for tax reform by blasting "unproductive tax loopholes that allow some of the truly wealthy to avoid paying their fair share," as Tim Dickinson recounted in an anti-GOP jeremiad published last year in Rolling Stone. In classic fashion, the Teflon president embraced the popular part of the Mondale message and discarded the rest.

The lesson battle-hardened Democrats of that era learned was that they could never again openly call for tax increases on middle-income households. Bill Clinton, at the time the conspicuously young governor of Arkansas, took the lesson to heart when he pledged during his 1992 presidential run to cut taxes on middle-income households and to raise them on households earning over $250,000. The Clinton administration did succeed in persuading a Democratic Congress to raise the two top marginal tax rates on ordinary income as part of its 1993 budget deal. In his second term, however, President Clinton agreed to a deep cut in capital gains taxes backed by a Republican Congress in 1997, a move that helped fuel the investment boom of that era. Clinton had successfully reinvented the Democrats, GOP protestations notwithstanding, as a low-tax party.

Recognizing the success of Clinton's tax pledge, then-candidate Barack Obama made the same promise, even using the same $250,000 threshold, despite the fact that $250,000 in 1992 would have been worth roughly $380,000 in 2008. The bigger difference between 1992 and 2008 was that the Bush-era tax cuts meant that there was far less scope for cutting the taxes paid by middle-income households.

The tax overhauls of the Clinton and Bush years had made the federal income tax highly progressive. To be sure, factoring in payroll taxes and state and local taxes makes the overall U.S. tax burden considerably less progressive. But the tax systems in most affluent democracies are actually slightly regressive, as they rely more heavily on national consumption taxes to fund universal social programs. The central virtue of these tax systems is that they undermine work incentives less than progressive tax systems that rely heavily on high marginal tax rates.

So now, as President Obama runs for a second term, he faces a serious dilemma. Despite having inveighed against the Bush-era tax cuts, he has committed himself to preserving the four-fifths of them that apply to income that falls below the all-important $250,000 threshold. At the same time, he has pledged to protect Medicare, expand Medicaid, and create a new health entitlement for young and middle-aged Americans who aren't covered by either program, commitments that will grow more expensive as the U.S. population ages and as the voting public demands expensive new medical treatments and who knows what else.

Republicans are in a similarly tight spot. In his epic Wednesday night speech, Bill Clinton came roaring out of retirement to warn swing voters that Mitt Romney has backed extremely deep cuts to the Medicaid program. Political genius that he is, Clinton realized that while Medicare has attracted all of the attention, it is Medicaid, which covers almost 50 million beneficiaries, many of them elderly voters in need of nursing home care, that is the real sleeper issue of this election. In the very likely event that a President Romney refused to follow through on politically toxic Medicaid cuts that would leave voters and Republican governors howling, he would either have to preside over a significant tax increase or allow debt levels to keep spiraling out of control.

Other affluent democracies pay for social programs through value-added taxes that are embedded in the cost of virtually all goods and services, a measure that Paul Ryan has seriously considered as a replacement for America's jerry-built corporate income tax. It is safe to say that the president is not going to go down this road, at least not before November.

Obama has thus left himself with only one option for raising revenue. He will have to raise taxes on high earners to levels far higher than those that prevailed during the Clinton boom. The Obama White House has, for example, championed the idea of curbing tax deductions and credits for over-$250,000 households. Soaking the rich might be a cherished tradition in Democratic politics, but as effective marginal tax rates approach 50 percent, the impact on incentives would be brutal.

The irony is that President Obama might have been better off taking a page from Walter Mondale and forthrightly arguing that universal health coverage and high levels of public investment and a fairer society and a greener environment and everything else Democrats want from government are actually worth paying for - not just by the top 2 percent of the top 1 percent, but by the top 50 percent. The only real alternatives are rolling back the growth of government, Ryan-style, or accepting sluggish growth for years to come.