This is a rush transcript of "Special Report With Brit Hume" from September 10, 2008. This copy may not be in its final form and may be updated.

(BEGIN VIDEO CLIP)

GOV. SARAH PALIN, (R-AK) VICE PRESIDENTIAL NOMINEE: You know, they say the difference between a hockey mom is and a pit bull? Lipstick.

SEN. BARACK OBAMA, (D) PRESIDENTIAL CANDIDATE: But you know, you can't — you can put had lipstick on a pig. It's still a pig.

OBAMA: They seize on an innocent remark, try to take it out of context, throw up an outrageous ad because they know that it is catnip for the news media.

(END VIDEO CLIP)

BRIT HUME, HOST: Well, it was catnip for the news media last night and early this morning to the point where Obama felt the need to respond to it, as you just heard him do. So this became the issue of the day today, all day -- lipstick on a pig.

Some thoughts on this now from Bill Sammon, Fox News Washington Deputy Managing Editor, Mort Kondracke, Executive Editor of "Roll Call," and FOX News contributor and syndicated columnist Charles Krauthammer.

All right, gentlemen, where are the equities here? Mort, it appeared to me when I saw what Obama had said that he was talking about the McCain policies being dressed up as a package of changes and that was what he meant by lipstick on a pig. What about it?

MORT KONDRACKE, EXECUTIVE EDITOR, ROLL CALL: Of course that's what he meant. He went on to say "You can wrap an old fish in a piece of paper called change, and it will still stink, and we have had enough of the same old thing." He is talking about McCain policy and Bush policy. I'm not aware that Sarah Palin has ever claimed to be a salmon, for example-sorry, Bill — different spelling!

But what's happening here is, having stolen the word "change" from the Obama campaign, the McCain campaign has now stolen this Democratic tactic of saying "you're smearing us" every time they say something negative. This clearly is a misinterpretation of what went on.

And, you know, the idea that Sarah Palin has to be treated like a delicate little flower when she shoots wolves from airplanes and shoots moose on the ground, I mean, she is a tough lady, and she can stay in the NFL, and she ought to be treated like she's in the NFL.

HUME: All right, so let's assess, then-so what we have is he says something, the McCain campaign claims outrage, puts up an ad, the Obama camp responds. Should it have?

KONDRACKE: Well, it got so much discussion, you know, that it almost had to be responded to.

BILL SAMMON, FOX NEWS WASHINGTON DEPUTY MANAGING EDITOR: I think Obama had to. He couldn't send a surrogate or a spokesman or put out a press release. This thing had are risen to the level where the candidate himself had to personally address specifically head on this issue of him calling — allegedly calling Governor Palin a pig.

He clearly was not trying to call governor Palin a pig, but he did commit a political gaffe.

HUME: Which was?

SAMMON: Which was to give his enemies fodder, and to create — in politics, perception is reality, and a significant number of Americans decided to take offense at what he said and to say "he must have been calling her a pig." And so —

HUME: How do we know that?

SAMMON: Look at the McCain ad that they put out so skillfully, so quickly today. It was not an ad, it was a web video they put out.

They juxtaposed the remark about Sarah Palin and the lipstick being the only difference between a pit bull and hockey mom she used at her acceptance speech, juxtaposed that with Barack Obama talking about a pig and. It looks like that's what he was talking about.

HUME: No-it looks like that because they put up a graphic up at the head of that that said Obama on Palin.

SAMMON: All is fair in love and war in politics.

KONDRACKE: It's not fair.

SAMMON: It may be a cheap shot, but, I'm telling you, in the political reality, this was jai major gaffe akin to John McCain not remembering how many houses he owns. This is a three or four day story.

CHARLES KRAUTHAMMER, SYNDICATED COLUMNIST: Mort is right, unfortunately.

KONDRACKE: Unfortunately? What about fortunately?

KRAUTHAMMER: Dissertations will be written on the "pig in lipstick" incident. But clearly Obama had no intention of maligning her or referring to her.

However, something happened after he said it. The audience stood up and cheered and stomped, meaning the audience interpreted it as a backhanded swipe at Palin. He didn't intend it, I'm absolutely sure, and perhaps at the time, given the audience reaction, he should have said, "oh, no —

HUME: "Don't get me wrong."

KRAUTHAMMER: Exactly. "I wouldn't imply that." Or perhaps he was enjoying the reaction. Or perhaps he just isn't as quick as you expect him to be, although to think of that on the spot and to imagine what it is going to cause is pretty hard to do.

The McCain ad is clearly a cheap shot. However, in their defense, the Democrats spent a half a year attacking McCain as a man who wanted to continue the war in Iraq for 100 years, which was a gross lie about his position.

And if the Democrats are going to play a dirty on an issue as serious as the Iraq war, I give the McCain camp a slight amount of leeway on playing loose on lipstick and pigs.

HUME: The question I have about this is — it strikes me that part of what happened today was the Obama event today was education. It was day two of education, so he really didn't really have a new message on the subject today or a way to make news, which left a vacuum into which this ad could move and crowd him a bit, and that that is part of the reason why he spent time talking about it.

But wouldn't it be wiser, Mort, for the Obama campaign to stop talking about Sarah Palin and for Democrats who support Obama to stop talking about it?

You had what's her name, Carol Fowler, the Democratic Chairman in South Carolina saying the fact that she hadn't had an abortion was the main reason she was picked. You had Congressman Cohen of Tennessee, another Obama supporter, up on the floor likening her to Pontius Pilate. Shouldn't they just stop talking about her?

KONDRACKE: I think the presidential candidate should not be attacking the vice presidential candidate of the other party. That's demeaning.

If surrogates want to go after stuff that's real, fine. I mean, this name calling, like Carol Fowler did, is completely out of line.

But if they find that, you know, she was for the bridge to nowhere before she was against it, and they can document that, fine. I mean, I think that's legitimate to poke holes in her story if it is legitimate stuff. And they can question her values and all that kind of stuff.

But I don't think Barack Obama ought to do it.

HUME: ((INAUDIBLE))

KONDRACKE: Where was Joe Biden in all of this?

SAMMON: I talked to a top Democrat this week who was bewildered that the Obama campaign keeps talking about Sarah Palin. It is a measure of how rattled they are by here.

It has been two weeks since her rollout, and she has thoroughly dominated the politics in this country like a phenomenon.

HUME: Next up, something a little more substantial — where the candidates stand on taxes. That's next.

(COMMERCIAL BREAK)

(BEGIN VIDEO CLIP)

SEN. JOHN MCCAIN, (R) PRESIDENTIAL CANDIDATE: I'll keep taxes low and cut them where I can. Senator Obama will raise them.

My friends, my tax cuts will create jobs. His tax increases will eliminate them.

OBAMA: Let me tell you something. I intend to cut taxes for 95 percent of the American people — 95 percent of you will get a tax cut.

(END VIDEO CLIP)

HUME: Well, maybe. But there is a little problem with that, because about 40 percent of the American public pays no income taxes at all. So there is a fact question here.

Mort, you are the wonk here. Who is right here?

KONDRACKE: He will give a lot of tax credits out. That's what he means.

HUME: To people who don't pay taxes.

KONDRACKE: They don't pay income taxes, but all workers pay payroll taxes.

HUME: But these are income tax cuts.

KONDRACKE: All right, they are income tax rebates, I think is a fair way-

HUME: Or bates. You can't rebate something that hasn't been bated yet.

KONDRACKE: In any event, he is definitely going to give money-that's what this is. It's redistributionism, and it's Keynesian. The theory behind what Obama is all about, his economic plan, is pure Keynesianism. He is going to spend a lot of government money, invest it, and some of it legitimately in human capital and in infrastructure, and going to redistribute income from the rich to the poor.

McCain, on the other hand, has turned into a supply-sider. He wasn't one when Bush first introduced, but now he is going to have even bigger tax cuts than George Bush had.

In fact, according to the Tax Policy Center, he's going to lower the tax revenues of the federal government to 16.8 percent of GDP, the federal government now spends 20 percent of GDP on stuff. So you're going to have to slash domestic spending like crazy in order to balance the budget or you will have a huge deficit.

HUME: And do the tax increases that Obama proposes cover the spending that he is proposing?

KONDRACKE: No, they don't. Obama is going to spend a lot more money than he is going to take in, especially —

HUME: So is this one of these arguments where each side is arguably correct and arguably incorrect?

SAMMON: You know, it depends on what your ideology is. If you believe in supply side economics, and the Tax Policy Center says that he could improve efficiency, McCain, but he will also increase the deficit by a lot.

KRAUTHAMMER: What Obama is calling a cut in that clip is essentially the government sending a check of between $500 and $1,000 to all Americans except the top five percent.

Now, if you aren't paying taxes because your bracket is low, you are getting a check. If you are, the check is in the form of a credit, and it reduces your income tax.

Normally if you say "I'm cutting taxes," it is a cut in rates. This is not a cut in rates. This is a check. In other words, it is what we called earlier in the year a "stimulus package," and that is spending. It is not a tax cut. It's a clever way for a Democrat to increase spending that is essentially a handout and call it a tax cut.

So it is — I think it's a fraud. If you want to say that people of low income ought to get a check, OK, and let's argue about that. But if you are calling it a cut, people assume it is a cut in taxes. It's not. It's a giveaway.

SAMMON: Critics call it "welfare." That's the word for it. If 40 percent of the earners aren't paying any taxes and you give them a $500 check, it is arguably fair to call that welfare.

The other thing to remembers is that Bill Clinton in `92 campaigned explicitly on a promise for a middle class tax cut, got elected, and said "Now that I have had a chance to look at the books, I think we're going to raise taxes," and raised taxes across the board on the middle class.

And the final point is that it's not —

HUME: He also raised rates on people in upper income brackets, too.

SAMMON: Right. But he promised a middle class tax cut and turned around and raised taxes on the middle class.

But it's not just the Democrats. Even under the Bush presidency, they have made the tax code more progressive, which is to say made a bigger percentage of people who don't pay any taxes and put a disproportionate of the burden on upper income earners.

I once asked Josh Bolten when he was the director of budget over there at the White House, is this really something you're proud of as a conservative Republican administration? He said we don't get that question that often from reporters. I said, yes.

HUME: I guess not.

That's it for the panel for tonight.

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