Monday, April 9, 2012

VAT is not a Money Machine

Marty Sullivan, writing in today's Tax Notes (subscription required):
The European experience is often used as an argument against considering a VAT in the United States. It would be a "fast track to a European welfare state," according to Daniel J. Mitchell of the Cato Institute ("Will Republicans Hand the Left a VAT Victory?" The Wall Street Journal, Jan. 4, 2012). Even if that were true in Europe, why would it be true in the United States?
Surely, antitax conservatives can beat back tax increases in legislation that includes a VAT just as well as with legislation that does not. And surely, if a VAT is enacted, antitax conservatives will not fold up their tents and let tax-and-spend liberals run amok. And even if antitax groups somehow disappeared, the VAT would not disappear from public view, as voters would be reminded of it every time they went to the checkout counter.
There is another reason to believe conservatives' fears are not justified: the Canadian experience with VATs. In Canada, the tax was first adopted by a conservative government in 1991 as a replacement for an inefficient 13.5 percent tax imposed on sales by manufacturers. The new tax (officially known as a general sales tax) was highly visible, highly unpopular, and subject to a great deal of ongoing political debate. The rate was reduced to 6 percent in July 2006 and to 5 percent in January 2008. Since the adoption of the GST, overall taxation in Canada has declined from 36 percent of GDP in 1990 to 33 percent of GDP in 2007. (For prior analysis, see "VAT Lessons From Canada," Tax Notes, May 3, 2010, p. 493, Doc 2010-9497 , or 2010 TNT 84-3 2010 TNT 84-3: News Stories.)
Conservatives frequently say they would consider a new broad-based consumption tax if it were used to completely replace the current income tax system. Accordingly, many support a federal retail sales tax (the FairTax) and a VAT split into two parts (the flat tax) only if the income tax is jettisoned. Although there are huge concerns in many quarters about the lack of progressivity in those approaches, there is little doubt the economic benefits would be positive -- and perhaps very large. Given the political impossibility of such radical reform, conservatives with a practical bent for getting things done should consider the adoption of a VAT as a partial replacement for the income tax. That is what professor Michael Graetz proposed (Tax Notes, Dec. 22, 2008, p. 1439, Doc 2008-25405 2008 TNT 247-41 2008 TNT 247-41: Viewpoint). The same economics that make flat and fair taxes attractive also apply to his plan -- just on a smaller scale. Sometimes half a loaf is better than nothing.
The VAT in the Bipartisan Policy Center's debt reduction plan would make possible cuts in top ordinary income tax rates to 27 percent. And I (and others) have proposed a VAT earmarked to pay for health care.  That would simultaneously guarantee a funding source for the fastest growing source of government spending and serve as a brake on that spending since, for the first time, taxpayers would see a connection between their government-funded healthcare and the taxes they pay.

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1 comment:

  1. Of course it isn't. As I see it, it only helps us pay for our debts from other countries.
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