Budget Cuts and the National Sales Tax
When Bob Barr began his campaign for President, he insisted that job one is to get control of government spending. Obama promises all sorts of new government “investment.” (Are there really people who are fooled by using the term “investment” to describe spending even more on wasteful government programs?) McCain proposes nothing more than reducing the growth rate of government spending. Barr, however, insists that government must spend less. His campaign brochure states,
“Congress and the president should eliminate agencies and programs that have no constitutional basis or legitimate function. Pork and corporate welfare alike should be eliminated.
The U.S. should no longer subsidize the defense of prosperous allies. ”
After cutting the size of government, Bob Barr holds out the promise of fundamental tax reform. When the campaign began, his website highlighted the so-called “Fair Tax” as a replacement for the income tax.
The “Fair Tax” is an example of a national retail sales tax, but the name “Fair Tax” is associated with a specific version of such a tax. The ”Fair Tax” proposal currently before Congress is for a 30% national retail sales tax, which is designed to be “revenue neutral.” That means that this tax is supposed to raise as much revenue as all existing federal taxes. (The 30% tax would be 23% of the after-tax sale price. Advocates prefer to emphasize the lower number.)
When I first read Barr’s proposal, it seemed clear that Barr’s support of the “Fair Tax,” was not an endorsement of the specific “Fair Tax” proposal before Congress in at least one important aspect. Clearly, Barr was not proposing a “revenue-neutral” national sales tax, because he was also calling for the deep cuts in government spending that many advocates of the “Fair Tax” refuse to consider. Later, Barr criticized the so-called “prebate” (which amounts to a very low guaranteed national income for every American.)
This year, federal government outlays ($2.9 trillion) are approximately 30% of personal consumption expenditures ($9.7 trillion.) Leaving aside complications, these figures suggest that the “revenue neutral” Fair Tax roughly “adds up.” The problem is that a 30% sales tax is just too high.
Suppose the Barr administration just rolled back the out-of-control spending by the Bush Administration. In 2001, spending was $1.8 trillion. This amount could be raised by a 20% national sales tax. While substantially lower than 30%, it is still shockingly high. The huge increases in government spending over the last eight years imply that this involves cutting the budget more than 1/3. Because of inflation, the real cuts are even larger, The real size of the government would be cut in half.
If the Barr administration instead cut back federal expenditure to the level of the early Clinton administration, then a 15% national sales tax could replace all existing federal taxes. This invovles cutting government spending in half to $1.4 trillion. Because of inflation, that $1.4 trillion wouldn’t buy as much today, so that amounts to a real cut of about 66%. The Federal government would be about 1/3 of its current size.
In my opinion, a 10% national retail sales tax sounds reasonable. If it replaces all existing federal taxes, that would finance government spending of about $1 trillion. That was the size of the budget near the end of the Reagan administration.
However, it does involve cutting federal spending by 2/3. And, corrected for inflation, that is a cut of about 80%. The federal government would be about 1/5 of its current size. A very challenging goal!
Still, it makes for a good slogan. Cut spending back to where Reagan left it, and we can get rid of the personal income tax, the payroll tax, and all other federal taxes and instead have a low, 10% national sales tax.
Advocates argue the lower number in order to allow us to compare fairly with the Income Tax, which is calculated on an “inclusive” basis.
If you earn 100K dollars, and pay the government 23% of it in income tax, you are left with 77K dollars. This is your take home.
If you spend 100K, and included in the prices there is a 23% inclusive sales tax, you have spent 77K dollars on goods, and the retailer has paid 23K to the government on your behalf.
If you spend 77K, and tacked onto the price there is a 30% exclusive sales tax, you have spent 77K dollars on goods, and the retailer has passed your payment of 23K on to the government.
My understanding of the fair tax proposal is that it would be included in the marked price of an item, which I (for one) prefer … it’s much easier to total up my purchases in my head that way than having to add 30% to them, as with with an ‘exclusive’ tax.
Most advocates of the fair tax would be very happy to see cuts in government spending. Almost none of them would “refuse to consider” them. None the less, they are not part of the fair tax proposal. Why is this? Because the fair tax proposal is orthoganal to the level of spending. You could have a 30% fair tax, you could have a 10% fair tax, or you could have a 2% fair tax. The point is not what is collected, but how it is collected.
In considering a method of taxation, one generally does it in a revenue neutral manner, to allow people to do an apples-to-apples comparison — just like one does the calculation in the same way (internal-or-external) as the tax to which he is compaing.
Conversely, in considering the level of taxation (which is always exactly equal to the level of spending, although the government sometimes borrows money and defers the collection of the tax), one generally does not bother to specify the method of taxation. Why muddy the waters when discussing orthoganal issues?