EconomistMom.com
…because I’m an economist and a mom–that’s why!

EconomistMom.com

“Spinning” the VAT

August 13th, 2010 . by economistmom

spinning-class-disco-lights

I don’t mean putting a falsely-positive “spin” on the idea of a value-added tax–but rather: could the VAT be to tax policy what “spinning” has meant to the group fitness industry?

A few weeks ago at a Brookings event featuring Congressman Paul Ryan (R-WI) speaking on his “Roadmap” plan, I made an analogy between effective strategies to reduce the budget deficit and effective ways to lose weight.  I argued that the problem with the Ryan plan was that it was like an “all diet but no exercise” approach, which would be unsustainable because it would make us feel deprived of the “sweets” (e.g., special-interest government spending) we want along with the good healthy food (e.g., our critical social insurance programs) we need.  (We’d end up binging and purging, is what I was thinking but didn’t get to elaborate on.)

A week after the Ryan event, the New Republic’s Jonathan Chait made the same analogy in talking about supply-side ideology as it has been displayed recently in discussions about extending expiring tax cuts (the routinely expiring variety as well as the “mother” of all tax extenders, the Bush tax cuts):

Imagine a man who has to lose weight. Either he needs to eat fewer calories or burn more of them. Conservatives are arguing that he should exercise less, because this will force him to eat less food. [The Heritage Foundation's J.D.] Foster writes, “Lower taxes are evidently what the American people want, which is especially galling to the tax-increase crowd.” And it’s true — Americans want to keep their spending and tax cuts too. Diets that promise to let you spend all day on the sofa and still eat lots of delicious food are also popular.

So I think we need to exercise more and exercise more efficiently.  We need to change the way we exercise, not just repeat the same old tired step aerobics classes of the past.  We need the equivalent of “spinning”

If you read what all the best minds in tax policy are writing, you come to realize that whether they lean left or lean right, they’re all talking about the real value of a tax that could change the way we raise revenue–like “spinning” changed the way we exercised–the value-added tax (VAT).

Here’s what the Brookings Institution’s Bill Gale and Ben Harris have to say about it.  They go through the full list of major concerns and criticisms of the VAT and explain how each could be fairly easily addressed.  The VAT is not perfect, but it could be the most “relatively attractive choice” available to us, in terms of ways to raise badly-needed revenue.  They conclude:

The VAT is not the only tax or spending policy that can constructively help solve the fiscal problem, nor will it solve the problem by itself. Nevertheless, to oppose the VAT is to argue either (a) there is no fiscal gap, (b) ignoring the fiscal gap is better than imposing a VAT, or (c) there are better ways than the VAT to make policy sustainable. No one disputes the existence of a fiscal gap, though, and the economic costs of fiscal unsustainability are enormous. As to the notion that there are better ways to put fiscal policy on a sustainable path, we would be excited to learn about them. In the meantime, policy makers should not let the hypothetical—and to date undiscovered—ideal policy get in the way of the time-tested, more-than-adequate VAT.

And here’s the whole intellectual journey Bruce Bartlett’s been on regarding the VAT–spanning more than 25 years!–and what he concluded in one of his more recent pieces published in Forbes (my favorite line emphasized, speaking of good analogies):

[E]ventually I decided that it was stupid to oppose something because of its virtues. Opposing a VAT because it’s too good is like breaking up with your girlfriend because she is too beautiful.

In my opinion, opposing a VAT means implicitly supporting our current tax system, which imposes a dead-weight cost equal to a third or more of revenue raised–at least 5% of GDP–according to various studies. This is insane. The idea that raising taxes in the most economically painful way possible will hold down the level of taxation and the size of government is obviously false. It just means that the total burden of taxation including the dead-weight cost is vastly higher than it needs to be. If we raised the same revenue more sensibly we could, in effect, give ourselves a tax cut by reducing the dead-weight cost.

Those who oppose big government would do better to concentrate their efforts on actually cutting spending. The idea that holding down taxes or insisting that we keep a ridiculously inefficient tax system because that will give us small government is juvenile. If people want small government, there are no shortcuts. Spending has to be cut. But if spending isn’t cut, then I believe that we must pay our bills. I think it’s better to do so as painlessly and efficiently as possible. That’s why I support a VAT.

And coincidentally (and to come full circle), Shawn Tully of Fortune very recently interviewed a drywall-hanging-while-on-August-recess Paul Ryan about the idea of a VAT:

I asked Ryan to handicap the probability of another legislative landmark that would forever change the course of the U.S. economy: The adoption of a European-style value-added tax, or VAT.

Right now the VAT appears so radical that it’s gained little support in Congress and isn’t even endorsed by the Obama administration. But Ryan told me that a VAT is far more likely than most Americans imagine. The reason isn’t the one that many experts are forecasting — that the Fiscal Commission appointed by President Obama will recommend the controversial levy. “I don’t believe the Commission will advocate a VAT,” Ryan told me, adding that he doesn’t speak for his fellow members.

On the contrary, Ryan fears another path to the VAT. “It cannot pass without a fiscal crisis,” he warns. “Our leaders are now courting one with big spending and by adding new entitlements. They know in the back of their minds that if a fiscal crisis comes, they can throw a VAT on top of that.”

Ryan concluded by saying that the economy now faces two layers of uncertainty — the threat of a debt debacle that’s already well known, and the added danger that the solution will be the heretofore unimaginable and largely unforeseen: a VAT. With that, the congressional carpenter signed off: “I’ve got to go back to hanging drywall.”

One way or another, I think some form of a VAT is inevitable, and that’s not a bad thing.  It’s probably one of the best forms of “exercise” we could get into right now.  It’s not something we would necessarily choose to do for the heck of it, if we didn’t need to “lose weight.”  But given that yes, we have to endure some “pain” to get some “gain” (uh, loss in this case), it’s better than the boring treadmill of just raising marginal tax rates, and certainly more effective than the “thighmaster” (while eating in front of the TV) Bush tax cuts.

8 Responses to ““Spinning” the VAT”

  1. comment number 1 by: BillSmith

    A VAT is just another way for Congress to show they can’t control their spending.

  2. comment number 2 by: AMTbuff

    Ryan is correct. The VAT will be enacted post-crisis. Hopefully also after huge and irreversible spending cuts that put government on a sustainable path.

    Ryan didn’t say it, but politicians like him have in the back of their mind that a crisis will provide the opportunity to radically cut back entitlement programs. Not because advocates of these programs will want this, but because the bond market will insist on it. Ryan’s plan is therefore an effort to put a radical cutback plan on the shelf for use in the crisis. Unfortunately for all of us, Ryan’s plan is not nearly fast-acting enough to satisfy the bond market. Something much harsher will be required.

    Second subject. The diet analogy is a little off. A more logical analogy would be economic growth = exercise, not taxes = exercise. Economic growth permits government spending, and taxes without economic growth will not.

    Third subject. The “critical social insurance programs” cannot include middle class entitlements. A system in which the middle class taxes itself to pay itself benefits through the government destroys economic value and is unsustainable. For these benefits to be sustainable, the number of recipients has to be limited to a relatively small minority of the population. Insurance against unlikely events is very workable. Insurance against simply getting old is not.

  3. comment number 3 by: Jim Glass

    Milton Friedman on video talks about “Director’s Law” , how the middle class exploits both the poor and the rich through government, while using as political cover the myth that govt is helping the poor at the cost of the rich.

    He uses higher education as an example — and also Social Security. Over and over we hear how the purpose of Social Security is to save the old and poor from having to “eat cat food”. But in reality Social Security is a real-time tranfser from the poorer to the richer, as the young working poor pay 15.3% payroll tax to enable boomers to enjoy their sailing vacations.

    Multiply by several for Medicare. (Why is Warren Buffett collecting “social insurance” today from his employees at Dairy Queen? Is it really to save him from getting lost in the cat food isle?)

    Anyone who doesn’t believe the middle class exploits the poor and the rich can just look at the table of the biggest tax expenditures budgeted for 2011:

    1) Exclusion for employer-provided health insurance, $177 billion.
    2) Mortage interest deduction, $105 billion
    3) Tax benefits for 401(k) plans, $67 billion
    4) Deduction for state and local taxes, $46 billion
    ….

    Every single one of these is overhwlemingly for the middle class, the poor are too poor to benefit from them significantly, while 1 & 2 are just for employees and all 1-4 are explicitly capped to keep “the rich” from using them, 1-3 directly and #4 though the AMT.

    Bottom line, if we REALLY want to close the future budget gap by eliminating REGRESSIVE poorer-pay-for-richer programs, there is PLENTY of room to do so.

    But there are precious few lining up to promote that idea.

    And the most resistant to it are, of course, the self-described “Progressives”.

    What does that tell us?

    (BTW, whatever one thinks of Milton’s policy positions, he’s always fun to watch and listen to)

  4. comment number 4 by: SteveinCH

    Another way to understand the same point is to look at the BLS survey of consumer finances. If you break government transfers to HHs by income group, there is no correlation between low income and high transfers. However, if you break it by age of the head of HH, there is a strong positive correlation between age of the head of household and government transfers. Said differently, it’s young to old, not rich to poor and the old are, on average, far wealthier than the young (you can check the Fed Survey of Consumer Finances for the data if you are curious)

  5. comment number 5 by: Janneman70

    A VAT tax is the most honest tax. As you buy you pay. The more money you spend the more you pay. So the rich will pay more then the poor because they buy higher cost items and buy more often. Go for it.

  6. comment number 6 by: SteveinCH

    Yeah in theory. But in practice, what do you think Congress would do with a VAT. They’d engage in massive social engineering. Higher rates on “bad” things and lower rates on “good” things. If you don’t think this would happen, you do’t know Congress.

  7. comment number 7 by: Terry Widlake

    I was sucked in by VAT when it was introduced in Britain in the early 70’s. A well meaning (and lying) chancellor of the exchequer, along with the Prime minister assured us that the 10% VAT would replace all other ‘consumer’ taxes including purchase tax. However, the ‘luxury tax’ on items such as cars, was not taken off and the 10%VAT was calculated on the price of the car + luxury tax which drove the price much higher. Of course, now the VAT in Britain is 20% and can go as high as 25%. Do any of you want this kind of taxation? I emigrated here to get away from it. Be careful how you evaluate the effects of taxation…especially a new on. Vote NO VAT

  8. comment number 8 by: Frank Faith

    A tax is a tax weather it is called a VAT tax or an Income Tax. If the government wants to raise X number of dollars it can be done by VAT or Income. It might be argued that with a VAT tax everybody would have to pay some tax and with the current Income Tax structure that is not the case, although that is not inherent in the concept of an Income Tax except if one is living off of savings and has no income. So it really is a matter of whose ox is being gored and how hard it is being gored. For me, at the present time the current income tax structure takes less money away from me than a VAT tax would unless the VAT tax was under 2% which I am sure it would not be. I have been paying income taxes for over 50 years and I cannot say whether one type of tax would have been less onerous than another. The real problem is not the type of tax but the federal government’s insatiable appetite for spending money.