Taxes, Trade and the “Level Playing Field”

Almost every nation has a value-added tax (VAT), which is a type of national sales tax that is imposed at each stage of the production process. Indeed, the United States is the only developed nation without a VAT. But this is a good thing. It is no coincidence that the burden of government in America is smaller than it is in almost every other industrialized country. Simply stated, VATs are “money machines” for big government.

Not surprisingly, this is why many politicians in Washington would love a VAT. But what is surprising is that some otherwise sensible people are sympathetic to a VAT because they think it will help exports. They point out, quite correctly, that the World Trade Organization allows governments to provide rebates for value-added taxes on exports (a practice known as border adjustability). But they are wrong when they argue that this boosts exports and creates a trade advantage.

Regarding the first point, it is downright silly to argue that imposing a VAT - and then creating an export exemption - will boost exports. At the risk of stating the obvious, the export exemption cancels the tax, so the price of American products sold outside US borders would not change.

It is also misguided to claim that a border-adjustable VAT gives other nations some sort of trade advantage. Under current law, all goods sold in America, whether made in America or made in Europe, are sold without a VAT. Likewise, all goods sold in Europe, whether made in America or made in Europe, are sold with a VAT. How much more level can the playing field get? This is not just a debate for navel-gazing academics and lint-covered policy wonks. As reported by the Wall Street Journal, some Republican presidential candidates (or at least their advisers) are focused on “border adjustability.”

Mr. Thompson’s aides outline a change to the tax code that would move away from taxing income or profits and shift toward a system that would reduce taxes on exports when they cross the border and impose them on imports when they enter the country. Under international rules, the European value-added tax, a kind of sales tax, is waived for exports, but those rules block the U.S. from reducing corporate-profit taxes for exporters. “The best thing to do would be to have the [World Trade Organization] change its rules to level the playing field, and that should be the first step. If that fails then we should play by the same game that everyone else plays,” said Lawrence Lindsey, Mr. Thompson’s economic adviser and former director of the National Economic Council for President Bush.

The key question, of course, is whether focusing on the unimportant issue of border adjustability leads to good policy or bad policy. Senator Thompson has made some positive noises about a wholesale replacement of our current anti-growth tax system with a consumption-base tax system like a flat tax or national sales tax. That would be great news, and it would be great news even if border adjustability led the candidate to choose a sales tax over the flat tax. What matters is not border adjustability, but that we would be getting rid of the many warts in the current tax system. But if a myopic fixation on border adjustability led a candidate to propose a VAT or other form of national sales tax without fully (and permanently) eliminating the income tax, then politicians would have an additional source of money to waste and America would be at grave risk of becoming an uncompetitive, European-style welfare state.

Tax Shares for Rich and Poor

The Tax Foundation provides a nice summary of the latest Internal Revenue Service income tax data here.

Pundits are always interested in tax data for particular income groups. For example, they want to know whether Bush has favored the highest-income 1% of taxpayers.

A good way to find out is to look at average tax rates over time. By “average tax rates” I mean total federal income taxes divided by adjusted gross income. The following figure shows average tax rates for six income groups in 1990, 2000, and 2005. 

The income groups refer to percentiles of tax filers ranked from those with the highest AGI to those with the lowest AGI. The figure shows the highest-income groups on the left and the lowest-income groups on the right.

1990 was before the Clinton tax increases of 1993. 2000 was after the modest tax cuts of 1997, but before the Bush tax cuts of 2001. 2005 was with the Bush tax cuts in place. 

Observations

Tax rates on those with high incomes are far greater than for other Americans. Folks at the top pay about 25% of their income in federal income taxes, which compares to less than 5% for half of the population at the bottom end.

For the top two groups, the tax rate in 2005 was about the same as 1990. Essentially, the Bush tax cuts just reversed out the Clinton tax increases on these folks.

The Bush tax cuts substantially reduced tax rates for people in every income group. Indeed, those at the bottom had the largest relative reductions in their tax rates.

This is a little wonky, but let’s compare average tax rates in 2000 to 2005. For the top group, the rate fell from 27.45% to 23.13%, a reduction of 16%.

Now consider the middle-income “top 26-50%” group, for example. Their tax rate fell from 9.28% to 6.93%, a reduction of 25%.  

Those at the bottom have paid little, and now they pay even less, due to legislation under both Clinton and Bush. Indeed, these data do not include the tens of billions of dollars sent to lower-income families as a result of the earned income tax credit, and thus it overstates taxes paid by the bottom group.

I’m for lower taxes for everyone, but I wish people would look at the actual data first before carping about the rich supposedly being specially favored by recent tax cuts.

Regulatory Competition Leads to Better Policy in France

The Financial Times reports that France is deregulating and cutting taxes in hopes of competing with London in the financial services market. The article also notes that Switzerland and Germany also are trying to attract business by reducing the burden of government. Needless to say, these positive reforms would not happen if the bureaucrats in Brussels had the authority to create a continent-wide regulatory regime. Another threat to deregulation and better policy is IOSCO (the International Organization of Securities Commissions), which wants to impose one-size-fits-all regulation on all jurisdictions - particularly ones with a more laissez-faire approach:

The French government yesterday unveiled its plans to boost Paris as a financial centre, proposing a more lightly regulated market for companies and funds on the Euronext exchange. Several of the measures are closely modelled on UK structures, as the French capital seeks to make up ground lost to London. The new market segment would operate according to European Union minimum standards in terms of listing and disclosure. …Switzerland’s leading financial services companies launched their own campaign last month for tax cuts, a relaxation of immigration rules and other measures to turn their country into the world’s third largest financial centre after London and New York. Frankfurt launched its own more lightly regulated market segment two years ago… Ms Lagarde said the government had already shown serious commitment to financial services by cutting taxes, particularly for higher earners. France’s high taxation is one reason why so many young French bankers flock to London.

Mississippi Scandal

Several years ago there was a scandal in West Virginia when people discovered that one of the state’s medical examiners, Fred Zane, did sloppy work and just made things up as he was giving so-called “expert testimony” in criminal trials. Radley Balko seems to have uncovered a similar scandal in Mississippi

For more about Radley Balko’s investigative reporting from Mississippi, read this

Edwards’ Budget Law

More evidence that when the government says a project will cost $1, taxpayers will end up paying $2 or more.

The Washington Post notes that Congress is considering further funding of a Navy ship program: ”The congressional action followed months of delays as costs ballooned. The cost for the initial two ships was estimated at about $220 million each but now appear to cost up to double that.”

More on cost overruns here and here.

New at Cato Unbound: Mark Lilla on Religion and Politics

The new issue of Cato Unbound on Religion and Politics, Home and Abroad,” is hot off the electronic presses with this month’s lead essay by Columbia University’s Mark Lilla, author of the new book The Stillborn God: Religion, Politics, and the Modern West. Drawing on themes from his book, Lilla attempts to explain why the United States, the most religious nation in the modern West, can neither understand nor cope with “the religious passions dominating contemporary world politics.” Lilla lays out how the “Great Separation” in Western political thought, which set aside “political theology” as the basis for conceiving of the legitimacy of the political order, together with the exceptional American experience of religious toleration, has made it difficult for Americans to grasp how uneasily Western ideals of democracy and toleration fit within frameworks of thought that still put God at the center of politics.

Joining Lilla over the next few weeks we will have the prolific Penn State professor of history and religion Philip Jenkins; Damon Linker, author of The Theocons: Secular America Under Siege; and The Atlantic’s Andrew Sullivan, author of recent The Conservative Soul: How We Lost It; How To Get It Back.

Governor Spitzer Gets It Right

In a Cato TechKnowledge newsletter issued today, I’ve updated the world on the status of the REAL ID Act.

One of the more interesting recent developments is the decision by New York Governor Eliot Spitzer to break the link between driver licensing and immigration status. He and the Department of Motor Vehicles commissioner announced the policy September 21st.

De-linking driver licensing and immigration will reduce unlicensed driving, uninsured driving, hit-and-run driving, insurance costs for legal drivers, and roadway injuries. Linking driving and immigration status is a requirement of REAL ID, and Spitzer’s move is another nail in the coffin of this national ID law.

In my TechKnowledge piece, I laud the governor’s action as follows:

Spitzer is not willing to shed the blood of New Yorkers to “take a stand” on immigration, which is not a problem state governments are supposed to solve anyway.It’s a welcome — and somewhat surprising — move, to see a Democrat and law-and-order-type former attorney general resist mission creep in a state bureau and hold fast to the federal system devised in the constitution. But he’s done the right thing. Thanks most recently to Governor Spitzer, and to state leaders from across the ideological spectrum, REAL ID is in collapse.

The move has subjected Spitzer to withering political attacks from Republicans. The attack most embarassing to witness, though, comes from “relatives of 9/11 victims.”