Inflation Reduction Act

A progressive bill full of bad policies.

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A Bill on Capitol Hill

A habit that many people who follow the news (myself included) can fall into is focusing on easy-to-write-about, attention-grabbing headlines and gloss over substantive news that requires more time to both produce and consume. In an effort to fight back against my own tendency to do this, I want to write about the recently passed Inflation Reduction Act.

President Biden will almost certainly sign it into law soon. There has been and will be plenty of discussions surrounding the politics of the legislation, but I want to focus on the content of the bill which I believe has some significant problems.

First, what exactly is in the bill? Well, I would just mentally throw away the name of the bill, because “Inflation Reduction Act” is simply a marketing ploy. Whether the bill will actually reduce inflation or not can be debated (I would argue it won’t), but what can’t really be disputed is that Congress does not have the ability to merely pass a law that reduces inflation. Inflation is a complicated phenomenon that isn’t just a dial that Congress can turn higher or lower as they please. Nonetheless, the bill does have pretty substantial components that will be pretty impactful.

As for the cost of the bill, Democrats say that at the end of the decade the bill will have reduced the U.S. deficit by more than $292 billion. At the same time, the U.S. will invest more money into energy production and reducing healthcare cost. This is possible through the implementation of a 15% corporate minimum tax, prescription drug pricing reform, and enhanced IRS tax enforcement.

Let’s start with the healthcare element. The Affordable Care Act (AKA Obamacare) in 2010 established subsidies to anyone who had an income less than 400% of the federal poverty level (FPL). When the COVID pandemic hit, Congress passed the American Rescue Plan Act (ARPA) which expanded those subsidies to any who had an income less than 500% of the FPL but were set to expire this year. The Inflation Reduction Act extends the end date for these expanded subsidies through 2025; essentially, a continuation of the status quo.

Furthermore, the Inflation Reduction Act tells the secretary of Health and Human Services to “negotiate and, if applicable, renegotiate maximum fair prices for… selected drugs” with the drug manufacturers. This means that prices for a select number of drugs (10 drugs from Medicare Part D in 2026 and a total of 20 drugs by 2029) would be unlikely to go above the “maximum fair price.” The “maximum fair price” is defined as a certain percentage of the non-federal average manufacturer price. Failure to comply by a company will lead to a 65% excise tax on the sales of the particular drug initially but quickly ramp up to 95% after six months.

Finally, the Inflation Reduction Act caps the amount that a person on Medicare Part D can spend on out-of-pocket costs at $2,000 a year and requires drug companies to pay rebates if drug price rise faster than inflation.

The climate part of the Inflation Reduction Act is essentially $369 billion spent on various incentives and tax credits for companies and consumers to invest/buy in “green” or carbon reducing energy. There are also new restrictions and regulations on some oil and gas production. If you want to read about the specific climate provisions, then this is a good source for that.

My Criticisms

It probably won’t come as a surprise that I strongly dislike this bill. Putting aside the intentions of Democrats, I think many of the provisions in the bill will make the lives of many Americans worse not better.

To begin, I’m not convinced that the bill will actually reduce the deficit like Democrats claim that it will. The assumptions that it will reduce the deficit are based on estimates for how much money will be spent and how much revenue will be collected as a result of the bill. These assumptions come from the three elements of the bill meant to either save the government money or add to the amount of money it collects that I mentioned earlier (implementation of a 15% corporate minimum tax, prescription drug pricing reform, and enhanced IRS tax enforcement).

According to the Joint Committee on Taxation, the 15% corporate minimum tax is supposed to bring in $313 billion. According to the Congressional Budget Office, the government is going to save $288 billion through the newly implemented drug pricing reform and collect $725 billion more in taxes through enhanced IRS tax enforcement. Now, I don’t doubt the sincerity of the economists that came up with these approximations, but I do doubt their ability to accurately make these approximations.

This brings me to what seems to have ruffled the most feathers: the enhanced IRS tax enforcement. First, I have my doubts about how successful the federal government is going to be at hiring more employees and collecting $725 billion more in tax revenue without changing the tax code. Also, the federal government is enhancing enforcement of an incredibly complicated, convoluted, complex, and nonsensical tax code without simplifying it.

It is not just possible that many people accidently paid less than they owe in taxes but highly likely. This isn’t because there are many millions of incompetent people (though there probably are), but the tax code is way too complex for the average person (myself included) to be certain they did everything correctly. To put more money towards IRS tax enforcement, but no thought towards simplifying the tax code, is a failure.

Also, the bill is going to implement a new 15% corporate minimum tax that is applied to companies that have average annual earnings of $1 billion or more. Without going too deep into the details, the largest companies in the U.S. will basically have two tax rates and will have to pay the higher amount. This will only impact about 150 corporations in the U.S., but those companies make up 30% of Fortune 500 companies as they are the largest and most successful companies in the country.

I am almost never a fan of raising taxes and I am particularly not a fan of raising taxes on corporations. Unfortunately, when people hear that corporations will be paying higher taxes, they assume that means the taxes won’t really impact them. This is misleading though as corporations produce the goods and services that consumers are able to purchase leading to greater wealth. The more a corporation is taxed, the less money the corporation has to reinvest in producing more goods and services more efficiently. This also translates to less jobs available for people to work as “reinvestment” almost always necessitates hiring more employees.

With that said, I can live with taxes if the government uses the money in an appropriate way, such as building roads. Unfortunately, I don’t think it is appropriate for the federal government to spend billions of dollars interfering in complex industries such as healthcare and energy production.

Unfortunately, the federal government has long been entangled with the healthcare industry and this bill doesn’t make it any better. The expansion of Obamacare subsidies continues the corrosive distortion of prices that subsidies always bring with them. Healthcare professionals and insurance companies are faced with increased regulation and paperwork that increases the overall cost particularly for those not on Obamacare.

On top of that, the government will now “negotiate” prices with drug manufacturers. At first glance, this seems like a rather free market idea until the meaning of price negotiation is revealed. Essentially, the government is placing a price cap on some of the most expensive drugs on the market. The “maximum fair price” is determined by a formula as mentioned above that would likely disincentivize companies from developing these drugs or others like them.

Furthermore, the rebate that drug companies will be forced to pay customers if they raise prices beyond inflation will disincentivize drug production will as well. The ingredients for a particular drug may well increase in price beyond the “inflation” number of the CPI used by the government. This increase in ingredients ought to lead to an increase in price as a company must make a profit in order to continue to make the drug. However, if company can’t raise the price without paying a rebate, then they will stop producing the drug as to not lose money.

The drugs that consumers have access too very well could be cheaper as a result of the bill’s passage, but the amount of drugs and quality of drugs available could be worse. Not to mention, the drugs that would have been developed in the future that will now not be developed due to the lack of incentives.

On the climate side, the tax credits and subsidies offered in the bill will likely lead to distorted prices similar to healthcare. The main assumption underlying the bill seems to be that the government needs to provide incentives for consumers to consume more green technology and producers to produce more green technology. This underlying assumption is just simply false. There is already plenty of demand for green technology which means there is already plenty of incentives for producers to make green technology. The issue lies in the feasibility of the technology.

The government is hoping that as they incentivize buying and developing green technology, it will kickstart innovation, leading to better, cheaper, more realistic green technology. I have my doubts that this will happen though. For example, the federal government has been giving the Solar Investment Tax Credit (SITC) since 2006. This has led to an explosion of the solar industry as it has grown by more than 10,000% since the time that the SITC was implemented.

At the same time, U.S. carbon emissions have dropped dramatically as seen in the graph below.

This means that federal government’s solar panel subsidies were a success, right? Well, not quite. It turns out that carbon emissions have declined largely due to an increase in natural gas usage and a decline in coal. It turns out that natural gas is significantly greener, and more efficient, than coal.

At the same time, the heavily subsidized solar panel industry has grown to a measly 2.5% of U.S. energy production. In other words, the market did a better job than the federal government at dropping U.S. emissions over the last decade. Apparently, the lesson that the federal government learned from this was that they just need to implement more subsidies. It’s a bold strategy.

The Inflation Reduction Act will be seen as a huge win for the Biden administration heading into the midterms as it is a bill chock-full of progressive policies; however, it will not be a win for the American people. Increased tax enforcement, more subsidies, price caps, and general federal entanglement in the economy have never served the American people well and won’t be any different this time around.

God Bless,

Hunter Burnett