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Paul Gigot: This week on "The Journal Editorial Report," President Obama's bipartisan deficit commission is coming under bipartisan fire. But can some good come out of it? We'll ask Wisconsin congressman and commission member Paul Ryan.
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Gigot: Welcome to "The Journal Editorial Report." I'm Paul Gigot.

When the co-chairs of President Obama's bipartisan deficit commission, Erskine Bowles and Alan Simpson, released their preliminary report last week, it was met with howls from both the left and the right, with some conservatives claiming it promotes a $1 trillion tax increase.

Republican Congressman Paul Ryan of Wisconsin is a member of that commission. I spoke with him earlier and asked him what those conservative critics are missing.

Ryan: Well, they're missing that Erskine Bowles--a Democrat appointee by President Obama, former Clinton chief of staff--is saying we need to lower tax rates. We need to lower tax rates on corporations, go to a territorial tax system, and lower tax rates on individuals if we want economic growth and international competitiveness.

So, yes, there's part of this that I would change, clearly. I would have taken that extra trillion dollars and plowed it into lowering tax rates on capital gains and dividends. That's what I would have done. That's what I would continue to advocate. But what we have here is centrist consensus among Democrats, centrist Democrats, that we should not be playing class warfare, that we should not be raising tax rates, that we should broaden the tax base, lower the rates for economic growth and prosperity. That's a pretty cool thing, I think.

Gigot: Yeah, the goal of lower tax rates, and I think one of their proposals--in one of their proposals, they would reduce the top rate to 26%.

Ryan: That's right.

Gigot: That's been a goal of an awful lot of conservatives for a long time.

Ryan: Many of us.

Gigot: Is this the basis, do you think, for potentially a bipartisan tax reform between Republicans and President Obama, the kind we saw in the 1980s under Ronald Reagan and a Democratic Congress?

Ryan: Well, I don't know about that. You know, Alice Rivlin, Erskine Bowles, they're in favor of this lowering the tax rates, but I think the president really does believe more in economic redistribution. He's clearly a class-warfare guy, and so I don't think he likes the idea of lowering top tax rates. Whenever we've had conversations with him, he bristles at the thought of it.

He believes capital gains rates, dividends rates, should be higher. He believes we should repeal deferral and do other things to corporate income taxes which makes us less competitive. So I don't know that if this is within the president's ability, from just his own ideological perspective to do something like this. It's clearly--there are some Democrats who do believe in this. I just don't know if President Obama is one of them.

Gigot: OK, but so--but you think that perhaps the Republican presidential candidates, going into 2012, some of them might--one or two of them might want to pick something like this out?

Ryan: Yes, we need to be a pro-growth tax-reform party, and so we're not the green-eyeshade austerity party. That's what the Democrats are doing with this borrow-and-spend agenda, which will lead us to European levels of austerity. We want to be pro-growth. We want to pre-empt the debt crisis by having real entitlement reform. And so tax reform is a key element, along with sound money, and we can get into that--a key element of a pro-growth policy. And so, yeah, our presidential guys--and we're going to be be advancing these kinds of ideas as Republicans in the House as well.

Gigot: But the flip side of lower tax rates, as you know, is broadening the base--

Ryan: That's right. That's right.

Gigot: --which means doing away with some of the major loopholes, one of which is the home mortgage interest deduction. And the commission suggested no more mortgage interest deduction for second homes, for vacation homes, for--

Ryan: More than 500 grand.

Gigot: --for more than $500,000, for mortgages larger than half a million dollars. Do you support those proposals?

Ryan: Well, look, the question is, in what context, and if this is in the context of lowering the tax rates, then the answer is yes. I mean, my own bill says you can choose. You can have all these deductions, loopholes, if you want, or you can get rid of those things and have an extremely lower tax rate if you want to--$10,000 on the first hundred grand, 25% above that, with generous standard personal and family exceptions, and then that's it. No cap gains, no dividends, no death tax. That's what my own bill does.

Gigot: Right.

Ryan: So, yes, in order to get to a low-tax-rate system, you have to broaden the tax base. The way I look at this is, should we ask people to send all their money to Washington and then we send them some of their money back if they engage in behaviors we approve of, or should we just let people keep their money in the first place? I mean, that's really what this is at the end of the day.

Gigot: OK. The other thing that's striking to me about the deficit commission draft that the two chairmen put out, and this something I'm critical of, is they do almost nothing on Medicaid and Medicare--

Ryan: No, they didn't touch it.

Gigot: --which you know are two of the big cost drivers in the budget. Why aren't they touching those two programs?

Ryan: I don't think they touch it because the administration really didn't want them to touch it. I don't think the president's commissioners were going to go after his health-care law. Alice Rivlin and I are offering a premium support plan and a block-granting of Medicaid. So we think one of the glaring problems in this plan is it doesn't touch health care, it doesn't do health care entitlement reform. So that's why Alice--a Democrat from the Brookings Institution, former Clinton OMB director, vice chair of the Federal Reserve--she and I are offering a plan that block-grants Medicaid to the states and goes to a premium-support system, which is not unlike the federal employee health benefit plan, for future Medicare retirees. And we're going to be offering that in a, you know--

Gigot: I'm old enough, Congressman, to remember the last time the Republicans tried to block-grant Medicaid, which was in the 1990s, after the Republicans took over Congress in 1994. They did it in 1995, tried also to make major changes in Medicare, and President Clinton just killed the Republicans with it, campaigning in 1996. And that whole effort stopped. So, what makes you think you can do that this time and succeed?

Ryan: Unfortunately, I'm old enough to remember that as well. So--I was there at that time, too, and not necessarily in this capacity. And look, you know what makes it different? Because this debt crisis is right around the corner, Paul, and we had, according to GAO, as of yesterday, an $88.6 trillion unfunded liability. That went up from $79 trillion last year, and the figure two years ago was $69.2 trillion, or $62.9 trillion. So the point I'm saying is, we don't have much more time. We've got to fix this thing. Let's do it on our own terms so it's graduate.

And also, we've got all these governors out there making great decisions. We've got Chris Christie. We've got Scott Walker coming in Wisconsin. You have Mitch Daniels. These guys are out there reforming their systems. Let's give them the ability to do that. Let's cut the strings, give them the money so that they can reform this. I just think it's a new day. This is not the 1990s. We've got fiscal pressures that are dictating these kinds of things. And let's let these governors, you know, experiment.

Gigot: We'll have more of my conversation with Congressman Paul Ryan when we come back.

Gigot: Continuing now with my interview with Republican Congressman Paul Ryan of Wisconsin. When the 112th Congress convenes in January, he'll take over as chair of the House Budget Committee. I asked him what his one or two top priorities would be.

Ryan: Pro-growth policy. Pro-growth tax policy, pro-growth economic policy and entitlement reform and budget reforms themselves--spending caps and things like that to get the budget process biased toward cutting spending and keeping taxes low instead of the opposite, what it does right now. And let's see this--

Gigot: So real structural--structural reforms that make it harder to spend.

Ryan: Real structural--exactly, exactly. Structural reforms, because the '74 Budget Act, which governs us now, is biased in favor of taxing and spending and borrowing. Let's go in a different direction. And we've got to start moving the ball on entitlement reform, and so we've got to start talking about that. You cannot address this issue if you do not address these entitlements, which are growing out of control. And if we address them sooner, it's better--it's along our terms. You can grandfather the grandparents. Otherwise, it's bitter European-like austerity if we keep kicking this can down the road.

Gigot: OK, now on the pro-growth side, one of the big issues: the 2001 and 2003 lower tax rates, which are set to expire at the end of December. The president is sort of hinting--the White House is suggesting they might accept a permanent extension of all of the lower rates on all income levels, maybe one year or two years. Is that adequate for you?

Ryan: No, we don't want to see these things decoupled, because if you decouple some of the rates with other rates, that means those other tax increases are going to happen.

Gigot: Right.

Ryan: You're going to have even more tax uncertainty. So, no, we're totally against decoupling. We want to see these things extended together. If we don't get them permanent, then they've got to be extended together for as long as we can have. I was on the Ways and Means Committee when we wrote these tax laws. They were never meant to be temporary. They were always permanent. They were permanent when they left the House. It was because of Tom Daschle's filibuster in the Senate that made these things temporary.

Gigot: But Congressman--

Ryan: So it was never the idea to make these things temporary.

Gigot: Right. But would you accept an extension of all the--extending all of the rates for two years? Is that enough for you?

Ryan: Well, look, I don't want to get into the negotiating through the media what is enough. What is not enough is decoupling these rates. What is not enough is letting these tax increases occur in January. And what we can get to get further down. Look, I believe in the Milton Friedman permanent income effect, so I think the idea that we're just going to have a couple of years and then a big tax increase just fuels more of this uncertainty. But that's not as bad as raising the taxes in January. So we want to get as much as we can, given that we're in a lame-duck that the Democrats control, so that's--you know, that's going to be a challenge.

Gigot: All right, let me ask you about the Federal Reserve. You're one of those few members in Congress who actually knows a lot about monetary policy and follows it. There's a big debate over the Fed's latest easing policy, including--

Ryan: Right.

Gigot: --the so-called dual mandate, which says that the Fed--and this is in a law in Congress--says that the Fed has to keep stable money and promote full employment. You want to do away with that full-employment mandate.

Ryan: I do.

Gigot: Why?

Ryan: I've had a bill since 1999 to get away with this full employment mandate. Because there's one agency in charge of maintaining the value of our currency, the Federal Reserve. That's what they should focus on. What we need, Paul, is sound and honest money. You're not getting that right now. QE2 isn't working. It was a bad idea.

What they're trying to do is bail out fiscal policy. We have terrible fiscal policy. It's going in the wrong direction because of what Congress and the president have done. And so now they're leaning on the Federal Reserve to bail them out with "stimulus" to try and overcompensate for the fact that we have terrible fiscal policy. Let's get our fiscal policy fixed. Let's stop it--this collision course fiscal policy is on with monetary policy--and focus on sound money. I think the Fed is looking through the back window.

Gigot: Right, right.

Ryan: They're using indicators, like core inflation, that are lagging, and they're not seeing the alarm bells that are out there--the dollar, the yield curve, commodity prices--which are straining inflation. So I just think we're not practicing sound money. The Fed driving the car with two feet, one on the brake and one on the gas pedal, and it's a real bumpy ride.

Gigot: All right, well, you've been a lonely voice on this. You're getting some converts lately--Mike Pence and Bob Corker--so we'll be watching.

Thanks so much for being with us, Congressman.

Ryan: You bet, Paul.

Gigot: All right. Joining me now with reaction, Wall Street Journal columnist Dan Henninger and Wall Street Journal columnist Mary Anastasia O'Grady.

So Dan, you think that Congressman Ryan is on to something here with his thinking that tax reform is actually possible--lower the rates, broaden the base?

Henninger: Absolutely. I mean, as you mention, Paul, this fellow is going to be chairman of the House Budget Committee.

Gigot: Right.

Henninger: That's likes a miracle, OK? House Ways and Means writes the tax laws. It's been run for a long time by Charlie Rangel, who has been in the news lately. The new chairman is Congressman Dave Camp of Michigan, cut from the same cloth as Paul Ryan, gave a strong speech this week in favor of lowering taxes, broadening the base. He's in charge of writing these laws. And the centrists in Washington, including this commission and another one, the Bipartisan Policy Center--

Gigot: Right.

Henninger: --run by Pete Domenici and Alice Rivlin, released a report calling for lower taxes and flattening the base. There is a consensus building for doing this. I don't think it's going to happen during the Obama administration, but I would definitely point it towards 2012.

Gigot: Well, that's the issue--I think one of the lessons of the 1980s, Mary is to do something like this--and it did get done in 1986, with a Democratic Congress and a Republican president, Ronald Reagan--but the lesson is it has to be bipartisan, at least in some respect.

O'Grady: Yeah, and I think, you know, Dan's point about how the environment is really ready--I mean, Obama may be very much of a class warrior, as Paul Ryan said. I think that's true. But at some point, you know, the people on his side have to recognize the fact that if you don't have growth, you don't have any revenues, you know.

Gigot: Right.

O'Grady: And you have a capital strike right now. And they have to do something to get money--to get the economy growing again.

Gigot: When you say capital strike, you mean people holding back, businesses in particular.

O'Grady: In particular--

Gigot: Not investing because of the environment.

O'Grady: Yes. And in particular, people who pay the higher marginal rate. And that's the key point here, I think, that you have to start bringing those rates down for people who have money. And if you employ a tax increase after the first of the year, I mean, that is just going to kill growth.

Gigot: Tax reform is the--maybe breaks the Gordian knot here. Because everybody's talking about the Bush tax increases, and then--you can't do it--the Bush tax cuts, rather. You can't just solve the budget problems with budget cuts alone.

Henninger: Well, you know, I was so fascinated, Paul, by this Domenici-Rivlin group, whose report came out this week. And they say in there, they're doing this to create incentives to work, save and invest. Ronald Reagan said that.

Gigot: Yeah, we remember those words.