Alm, James and Asmaa El-Ganainy, “Value-added Taxation and Consumption,” Tulane University Economics Working Paper 1203, July 2012

Does the value-added tax affect consumption?  Using a sample of fifteen EU countries over the period 1961-2005…we find that the effective VAT tax rate is negatively correlated with the level of aggregate consumption.  More precisely, a one percentage point increase in the VAT rate leads to about a one percent reduction in the level of per capita aggregate consumption.  This result is consistent across various estimators, alternative time periods, and additional explanatory variables.  To our knowledge, these estimation results are the first attempt to include explicitly and to estimate directly the effects of the VAT on consumption behavior.

Our results have the clear implication that policymakers should consider the potential impact of the VAT on households’ consumption decision when designing a VAT.  Our results are also consistent with the often-stated view of proponents of consumption taxes that taxing consumption rather than income generates more savings, and so leads to higher growth.

Of course, there are many considerations that influence any decision to tax consumption versus income.  The effects on consumption choices are clearly important, but other dimensions also matter: how are other aspects of behavior (e.g., labor supply, portfolio choice, tax evasion)affected, what are the distributional effects of different forms of taxation, how does a country make the transition from one major tax base to another, what are the administrative dimensions of taxing different tax bases, how are different levels of government affected by income versus consumption taxes, how does consumption versus income taxation affect the international decisions of firms and individuals, to name just a few.  Even so, our results demonstrate that greater use of the VAT has led, at least in EU countries to less consumption and more savings, a finding that has broader implications for the choice of a consumption tax versus an income tax.

Lind, Michael, “A Radical Tax Solution,” Salon.com, 04/24/12

“Michael Graetz of Columbia Law School points out that “the United States is a relatively low-tax country, but not with respect to income taxes … We typically collect about 12 percent of GDP in corporate and individual income taxes, while the OECD nations average about 13 percent. The biggest difference is that most other nations rely much more heavily on consumption taxes than we do: 11 percent of GDP in the OECD compared to about 5 percent in the United States. Indeed, we are the only OECD nation that does not impose a national level tax on sales of goods and services.”

This raises the possibility of a fourth option for American tax reform, distinct from the phony centrism of Simpson-Bowles (closing loopholes while lowering rates for the rich and cutting entitlements for the majority), radical conservatism (the single flat tax) and conventional progressivism (relying for more revenue chiefly on higher personal income taxes combined with bigger tax credits). The fourth option would reject the goal of revenue neutrality and acknowledge that, in a nation with an aging population, federal taxes can and should be permanently increased to pay for Social Security, Medicare and Medicaid. (These, like the rest of the American healthcare sector,  need to be made solvent by price reduction and price regulation, not rationing). Much or most of the needed additional revenue should come from the adoption by the federal government of a VAT.  A federal VAT’s revenues could be shared with state and local governments, partly replacing existing sales taxes.

 http://www.salon.com/2012/04/24/a_radical_tax_solution/singleton/

 

Porter, Eduardo, “A Tax Code of Politics, Not Practicality,” NYTimes.com, 04/10/2012

“Our byzantine tax code is built upon a longstanding political deal: Democrats wanted a tax scale with higher rates for richer Americans to finance social programs aimed at the poor and the middle class. Republicans countered by pushing for tax exceptions, exclusions and deductions that shielded the incomes of the rich from the taxman and reduced government revenue.

This compromise has left us with a loophole-riddled code that isn’t very good at raising money. The richest 1 percent of Americans, who make $1.5 million on average, pay 28 percent of their income in federal taxes, according to the nonpartisan Tax Policy Center. That’s way below the top rate of 35 percent. The rest of us also pay little. The bottom 85 percent of taxpayers have an average federal tax rate of 12 percent. The poorest 25 percent pay less than 1 percent of their income — $77 a family, on average.

Compared to other developed countries, the United States doesn’t collect much tax at all. Tax revenue at all levels of government adds up to less than 25 percent of the nation’s gross domestic product, putting us behind every other rich country and even some poor ones. Among the 34 nations in the Organization for Economic Cooperation and Development, only Mexico and Chile collect less in taxes. The average across the O.E.C.D. is 9 percentage points higher.”…

“…(F)ederal tax revenue has not surpassed 21 percent of the nation’s output. Last year it was under 15 percent. Not only is our tax code bad at raising money, it is also plagued with perverse incentives that, added up across the population, can push us to distort the economy and slow it down”….

“ …What would a better tax system look like? Most other rich countries have one. While each country has a different version, they share a core feature: they raise a lot of money taxing people’s consumption, at the point of sale.

Consumption taxes create fewer perverse incentives because taxing what people buy doesn’t affect their choices about work and investment. If anything, such a system might promote savings, generally good for growth. These taxes are also easy to collect and hard to evade. They don’t add complexity to your tax return. Because they produce few perverse incentives, they can be used to raise a lot of money.

Consumption taxes are supported by a vast majority of economists. They underpin Western Europe’s welfare systems, which are based on the proposition that all citizens are entitled to similar income support and services to guarantee a minimum standard of living, and that everybody should pay proportionately for them. Denmark and Sweden collect about 10 percent of their gross domestic product with a value-added tax, a modern tax on consumption.

In the United States, by contrast, states raise only 2.2 percent of G.D.P. through various sales taxes.  There is no federal consumption tax at all.

A federal consumption tax has been proposed more than once. A report last year by the Congressional Research Service found that for every 1 percent levied in a value-added tax, the federal government would raise up to $55 billion a year. This new source of money could help change the political deal underpinning our tax system and pave the way to cull loopholes and reduce our top tax rates.”

 http://www.nytimes.com/2012/04/11/business/economy/a-tax-code-of-politics-not-practicality.html

Toder, Eric, Jim Nunns and Joseph Rosenberg, “Implications of Different Bases for a VAT,” Tax Policy Institute, 02/12

“The federal budget outlook is unsustainable over the long run.  The latest (June 2011) projections by the Congressional Budget Office (CBO)1 show the ratio of publicly-held debt held to GDP, which was 40 percent at the end of 2008, rising from 69 percent in 2011 to 187 percent in 2035 under their Alternative Fiscal Scenario, which assumes that current federal spending and revenue policies will largely continue.  Even under CBO’s Extended-Baseline Scenario, which assumes that all of the 2001-2003 tax cuts expire at the end of 2012, the AMT will no longer be patched, and that Medicare and other health-related spending will be held to modest growth rates, debt held by the public is projected to rise to 84 percent of GDP by 2035.  Rising debt levels increase the chance of a fiscal crisis, a sudden spike in the interest rate the federal government must pay on its debt that would necessitate large adjustments to spending, revenues, or both.  More gradual adjustments could be better designed and less damaging to long-run growth and social welfare.

Two prestigious groups, the President’s National Commission on Fiscal Responsibility and Reform and the Bipartisan Policy Center’s Debt Reduction Task Force, both recommended a sweeping set of changes in taxes and spending policies to address future deficits and eventually reduce the ratio of publicly held debt to GDP below its current level.2  The Debt Reduction Task Force recommendations included adopting a “debt reduction sales tax” structured as a value-added tax (VAT).  A VAT is a broad-based tax on household consumption that is collected incrementally by businesses at each stage of their production and distribution of goods and services.  VATs are an important source of revenue for nearly all countries, and among major countries, the United States is alone in not imposing a VAT.

VATs around the world typically exclude certain consumption items from the VAT base for policy or administrative reasons.  This paper describes the policy and administrative reasons for exclusions from the VAT base and the design of a rebate as a substitute for base exclusions to address distributional objectives.  The paper then analyzes the effect of possible exclusions from a U.S. VAT base or a rebate on the VAT rate necessary to achieve a specific deficit reduction target and on the distribution of the tax burden.   Two options for the base of a VAT are analyzed: a broad base, which would allow the lowest rate necessary to meet the specific target for deficit reduction, and a narrower base that is designed to address the distributional effects of a VAT by omitting items that are disproportionately consumed by lower-income households.  A higher rate would be required on this narrower base to meet the deficit reduction target.  A third VAT option that takes a different approach to addressing the distributional effects of a VAT also is analyzed.  This option uses the broad base of the first option but provides a rebate to households, so it would also require a higher rate than the first option to meet the deficit reduction target.”

 http://www.urban.org/uploadedpdf/412501-Implications-of-Different-Bases-for-a-VAT.pdf

Clinton (Again) Endorses VAT

In his new book, “Back to Work: Why We Need Smart Government for a Strong Ecconomy,” Knopf, 11/08/11, President Bill Clinton again calls for (see TV interviews under “Audio/Video”) a shift away from income taxation to a consumption tax:

“Among wealthy nations, we now have the second-highest corporate tax rate in the world, and because of recent changes in other countries we’re now the only wealthy nation that taxes income earned overseas when it’s brought back home.  We’ve also fallen to seventeenth in the level of our research and development tax incentives.  We have to become more competitive.  Big corporations don’t get hurt by the current system.  They just put plants in other places, create good jobs there, and leave their earnings there.

In the future, we’ll have to design a progressive revenue system that relies more on personal income and consumption taxes, like the value-added tax, which also would help to increase our exports…making our products more affordable in other markets.”

 

 

 

 

NYTimes: Flat Tax Doesn’t Solve Inequity Problem, Robert H. Frank in “The Problem with Flat-Tax Fever,” 11/06/11

Robert Frank attacks the Flat Tax as inequitable and as a mirage to solving the problem of complexity.  But, the Perry incarnation is only the latest, but not the purest presentation of the Flat Tax.  The complexity resides in the retention of various deductions (loopholes), which in the ideal are eliminated in their entirety.  Mr. Frank does not discuss the simplification potential, but concludes his piece with a brief submission of his preference for a progressive consumption tax.  There is no acknowledgment, however, that his preferred tax would also favor the highest earners, as they have the most disposable income and therefore the very disproportionate ability to save.  Most economists would agree that increased savings are important to our economic success, but there is no discussion of this in the column.

Unfortunately, Mr. Frank’s unarguable conclusion is that our politicians are most unlikely to approve a new tax, backed-up by the fact that half the members of the Debt Commission (“supercommittee”) have pledged not to do so.

Mr. Romney and President Obama have yet to declare one way or the other on sweeping tax reform, but the possibility remains, in spite of the pledges taken by members of Congress and Senators, that either might propose a new and different plan.  The cleanest, most competitive system for replacement of our outmoded and corrupted tax code would be a clean sweep replacement by a VAT and a FlatTax on personal income with a high threshold.  The tax could be balanced between the VAT and Personal Income Tax, so as to retain (increase) progressivity, and the bottom quintiles could be protected from the VAT via the Earned Income Tax Credit.  The border-adjustable VAT would make exports more competitive and imports less so.  Such a plan was once floated by Gov. Mitch Daniels, but has not reached the light of day without a champion in the presidential campaign.