Dan Mitchell: It is economically foolish to have high tax rates, double taxation, and corrupt loopholes!

 

 

Time to Resuscitate the Flat Tax

It is economically foolish to have high tax rates, double taxation, and corrupt loopholes.

The answer, as Steve Forbes explains in this video, is the flat tax.

 

 

He makes excellent points, similar to the analysis I shared in my 2010 video.

Though there’s one difference. He got to share the good news about the wave of tax reform taking place at the state level.

In my video, by contrast, I got to share the good news about the tax reform that was taking place in Eastern Europe.

And what happened in Eastern Europe is our topic for today.

A new study by Brian Wheaton, a professor at UCLA who examined what happened after those nations adopted flat tax systems after the breakup of the Soviet Empire.

Here’s a map from the study, showing the nations that adopted the flat tax.

What were the economic results?

Here are some excerpts from Prof. Wheaton’s study.

Would a flat income tax substantially improve…incentives? To answer these questions, I study the experience of twenty post-Communist countries, which introduced flat taxation on income. I find that the flat tax reforms increase annual per-capita GDP growth by 1.38 percentage points for a transitionary period of approximately one decade. …Further, I find that the growth effect primarily operates through increases in investment and, to a lesser extent, labor supply. It is driven by the reductions in progressivity resulting from the reforms rather than merely the reductions in the average marginal tax rate.

And here’s a chart showing the pro-growth impact.

I wrote a column about this study yesterday for Townhall.

Here’s some of my analysis.

Starting about 30 years ago, there was serious interest in replacing the internal revenue code with a simple and fair flat tax. What motivated the desire to adopt a system based on one low rate, no double taxation of saving and investment, and no special loopholes?In part, it may have been because lawmakers at the time had a decent understanding of fiscal policy, having spent much of the 1980s lowering tax rates and seeing how that led to better economic performance. …With Bill Clinton in the White House, however, it was not possible to turn enthusiasm into reality. And in the following few decades, tax reform has fallen off the radar. …That’s unfortunate. America’s tax system has punitive features that reduce incentives for productive behavior. ..it would be a very good idea to resuscitate tax reform.

I explain that Professor Wheaton’s growth estimates are very important.

By the way, 1.38 percentage points of additional annual growth may not sound like much to some people, but the net effect is that flat tax nations wound up with about 15 percent more economic output after a decade. And that’s in addition to whatever growth they would have experienced without tax reform. A similar boost in growth in the United States would means several thousand dollars of additional economic output for every man, woman, and child.

And I close with a political observation.

It will be interesting to see whether some of the potential 2024 presidential hopefuls decide to battle these people and make tax reform part of their campaigns. Combined with other good ideas such as spending caps and federalism, there might be a winning message for the right candidate.

By the way, I’m not the only person to write about resuscitating tax reform.

Here are some excerpts from a column earlier this year by Cal Thomas for Jewish World Review.

The next time Republicans control all three branches of government they may wish to visit an old idea – the flat tax. …The Tax Code is a foreign language to many. As of 2018, it comprised 60 thousand pages in 54 volumes. According to The Tax Foundation,…the U.S. ranks 21st out of 37 nations in tax simplicity. Estonia has been first for eight straight years. Maybe we could learn from them. Look at states with no state taxes to see their prosperity. It is a major reason so many Americans are moving from high tax states to those with lower, or no state taxes. Unfortunately, one cannot escape the long arm of the IRS. A flat tax and the elimination of the IRS might help reduce the anger many people have about Washington and big spending politicians.

Since I’m a policy wonk, I mostly care about tax reform in hopes of reducing what economists refer to as “deadweight loss” in the economy.

But let’s also remember what Steve Forbes said in the video about the current system being corrupt.

 


In 1980 I read the book FREE TO CHOOSE by Milton Friedman and it really enlightened me a tremendous amount.  I suggest checking out these episodes and transcripts of Milton Friedman’s film series FREE TO CHOOSE: “The Failure of Socialism” and “The Anatomy of a Crisis” and “What is wrong with our schools?”  and “Created Equal”  and  From Cradle to Grave, and – Power of the Market.

In this episode “How to Stay Free” Friedman makes the statement “What we need is widespread public recognition that the central government should be limited to its basic functions: defending the nation against foreign enemies, preserving order at home, and mediating our disputes. We must come to recognize that voluntary cooperation through the market and in other ways is a far better way to solve our problems than turning them over to the government.”

In this episode Milton Friedman makes the point, “There was no widespread public demand for Social Security programs… it had to be sold to the American people primarily by the group of reformers, intellectuals, new dealers, the people associated with FDR. The Social Security is one of the most misleading programs. It has been sold as an insurance program. It’s not an insurance program. It’s a program which combines a bad tax, a flat tax on wages up to a maximum with a very inequitable and uneven system of giving benefits under which some people get much, some people get little.”
 
 
 
Pt 5
 
Lawrence E. Spivak: I know, I believe, I say I know, I think I know, but I’ll say I believe that you felt, you blame the government for the Great Depression of 1929 through 1933 and of course, you had to blame FDR for all he did, but most people feel that he saved this free economy of ours.
Friedman: Given the catastrophe of the Great Depression, there is no doubt in my mind that emergency government measures were necessary. The government had made a mess. Not FDR’s government, it was the government that preceded him. Although it was mainly the Federal Reserve System which really wasn’t subject to election. But once FDR came in he did two very different kinds of things.
Lawrence E. Spivak: Well, had the government made a mess by what it did or but by what it didn’t do.
Friedman: By what it did. By it’s monetary policies which forced and produced a sharp decline in the total quantity of money. It was a mismanagement of the monetary apparatus. If there had been no federal reserve system, in my opinion, there would not have been a Great Depression at that time. But given that the depression had occurred, and it was a catastrophe of almost unimaginable kind, I do not fault at all, indeed on the contrary I commend Roosevelt for some of emergency measures he took. They obviously weren’t of the best, but they were emergency measures and you had an emergency you had to deal with. And the emergency measure such as relief programs, even the WPA which was a make work program, these served a very important function. He also served a very important function by giving people confidence in themselves. His great speech about the only thing we have to fear is fear itself was certainly a very important element in restoring confidence to the public at large. But he went much beyond that, he also started to change, under public pressure, the kind of government system we had. If you go beyond the emergency measures to the, what he regarded as reform measures, things like NRA and AAA, which were declared unconstitutional, but then from there on to the Social Security system, to the …
Lawrence E. Spivak: Take the Social Security System for a minute. The people wanted that, they wanted that protection. They were frightened, they wanted welfare.
Friedman: Not at all.
Lawrence E. Spivak: When you said pressure, who, pressure from whom?
Friedman: Pressure from people who were expressing what they thought the public ought to have. There was no widespread public demand for Social Security programs. The demands…….
Lawrence E. Spivak: No demand for welfare with 13 million people …….
Friedman: There was a demand for welfare and assistance I was separating out the emergency measures from the permanent measures. Social Security in the first 10 years of its existence, helped almost no one. It only took in money. Very few people qualified for benefits. It wasn’t an emergency measure. It was a long term measure. And it had to be sold to the American people primarily by the group of reformers, intellectuals, new dealers, the people associated with FDR. The Social Security is one of the most misleading programs. It has been sold as an insurance program. It’s not an insurance program. It’s a program which combines a bad tax, a flat tax on wages up to a maximum with a very inequitable and uneven system of giving benefits under which some people get much, some people get little. So that Social Security….
Lawrence E. Spivak: Would you now abolish Social Security?
Friedman: I would not go back on any of the commitments that the government has made. But I would certainly reform Social Security in a way that would end in its ultimate elimination.
Lawrence E. Spivak: If you’re not afraid then of the free market under any circumstances, where cooperation which you find necessary which you believe all to come, fails to come, where competition becomes so fierce and becomes very frequently corrupt and where, all where it becomes stupid. Take for example what’s happening in today’s market, the conglomerates. Which have been seizing up all sorts of, we happen to live in a hotel that’s run by a conglomerate. Why should ITT, for example, run a hotel and how are you going to stop that.
Friedman: Well in the first place, once again,
Lawrence E. Spivak: Without government, without…..
Friedman: Once again, it’s government measures that have promoted the conglomerates. The only major reason we have conglomerates is because they are a very effective way to get around a whole batch of tax legislation. Let me ask a different question. Who is more effected by government regulations, by government controls?
Lawrence E Spivak: I thought I was supposed to ask the questions. But I was warned that you might turn these on me.
Friedman: Well tell me, whose more effected the big fellow who can deal with it or that have a separated department to handle the red tape, or the poor fellow?
Lawrence E. Spivak: The big fellow can always take care of himself under any system.
Friedman: Right, and therefore he’ll want a system which gives the big fellow the least advantage. And the system under which he can get government to help him out, gives him the most advantage, not the least. You say am I afraid of greed, of lack of cooperation. Of course. But we always have to compare the real with the real. What are the real alternatives? And if we look at the record of history, if we go back to the 19th century which everybody always points to as the era of the robber baron who strode around the land and ground the poor under his heel, what do we find? The greatest outpouring of voluntary charitable activity in the history of the world. This University, this University of Chicago is an example. It was founded by contributions by John D. Rockefeller and other people. The colleges and universities throughout the Midwest. If you go back and ask when was the Red Cross founded, when was the Salvation Army founded, when were the Boy Scouts founded, you’ll discover all of that came during the 19th century in the era of unregulated rapacious capitalism.
Lawrence E. Spivak: I’d like to go back for a minute to the question of conglomerates. Granted that what you say that the government policies concentration on central government if you will, or whatever you want to call it, are responsible for the growth of conglomerates. What would we, what should we do about them now? Government try to undue them? Or should anybody try to undue them?
Friedman: No.
Lawrence E. Spivak: Or should you just let them fail?
Friedman: You should let them fail, of course. I am strongly opposed to government bailing any of them out. You should let them fail. The best things you can do in my opinion, are first to have complete free trade so you can have conglomerates in other countries compete with conglomerates in this country. We may have only two or three automobile companies, but there’s Toyota, there’s Volkswagen, competition from abroad is effective. But in the second place…
Lawrence E. Spivak: When do you say complete free trade you mean all over the world?
Friedman: No sir. I mean the U.S. all by itself unilaterally should eliminate all trade barriers. We would be better off if all the countries did the same.
Lawrence E. Spivak: What do you think would happen if we just did it though?
Friedman: I think we’d be very much better off and a lot others would then follow our example. That’s what happened in the 19th Century when Great Britain in 1846 completed removed, unilaterally, all trade barriers so that…..
Lawrence E. Spivak: You don’t think this country would be flooded with goods of all kinds from all over the world, maybe cheaper in that we wouldn’t have great unemployment in this country?
Friedman: What would the people who sold us goods do with their money? They’d get dollars, what would they do with the dollars? Eat them. If they want to send us goods and take dollars in return, we’re delighted to have them. No. That’s not a problem as long as you have a free exchange rate. Because we cannot export without importing, we cannot import without exporting. You would not have a reduction in employment, what you’d have would be a different pattern of employment. You’d have more employment in export industries and less employment in those industries that compete with import. But go back to conglomerates, Larry for a moment. I just want to ask a very different kind of a question. Conglomerates are not very attractive, I would much rather have a lot of small enterprises. But there’s all the difference in the world between a private conglomerate and a government conglomerate. In general, the government conglomerate can get money from you without your agreeing to give it to him. You and I pay for Amtrak and for the postal deficit whether we use the services of Amtrak or the postal deficit or not. I don’t pay your conglomerate unless I rent one of their apartments. I get something for my money. So bad as private conglomerates are, they’re less bad than one of the alternatives.

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