VAT Attack! Will deficit commission lead to a VAT?

December 11, 2009

That is one theory offered up as the eventual outcome of the C0nrad-Gregg deficit commission. And today in the NYT, there is a story extolling the virtues of a VAT.  Indeed, it is a great revenue raiser, and liberals love it because they think Americans are undertaxed and don’t want to cut spending to reduce the long-term structural budget deficit.

Now given that it will take 60 votes by Congress to approve the commission’s reforms, I am not so worried about a huge tax increase passing with phony spending cuts.  A currency or bond market crisis, though, could lead to calls for a VAT to show markets the US is serious about the deficit. And the WH would love to slap one on the US economy,  A better solution is actual cuts in the rise in entitlement spending accompanies by a more growthy, efficient tax system. I like the Hall-Rabushka flat consumption tax, as long as it replaced the existing taxes on labor and capital and corporate income.  It has VAT-like features, but is not hidden the way a VAT is. Here is Greg Mankiw:

If you look at the economic effects, a VAT is similar to the Hall-Rabushka Flat Tax, which many economists love. Essentially, the main difference between a VAT and the flat tax as developed by Hall and Rabushka is that firms get to deduct wages as a cost under a flat tax, but then those wages are taxed at the household level. Other than this minor change of shifting the responsibility for the tax on wage income from the firm to the household, the Hall-Rabushka flat tax and VAT have identical economic effects. (There is also an exclusion for the first X thousands of dollars of wage income under Hall-Rabushka, making it progressive in average tax rates, but the same result can be accomplished with a VAT as well by rebating some of the revenue via a demogrant.)

My bottom line: If I could replace our current tax system (including the personal income tax, corporate income tax, payroll tax, and estate tax) with a VAT, I would gladly do it.

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I do not believe that the Hall-Rabushka flat tax is border-adjustable, which is a prime competitive advantage to the VAT, which is accepted as border-adjustable by OECD under GATT rules.

Posted by SteveA | Report as abusive