The perils of tax reform: frankly, tiny and timid is better than big and bold

National Review, Dec 13, 2004 by Ramesh Ponnuru

Consider the practical problems that would attend the creation of a national sales tax. Its proponents do not want the federal government to levy a sales tax in addition to an income tax. Many of them say that they would abolish the income tax and repeal the Sixteenth Amendment so that it would stay abolished. Good luck with that.

The sales taxers also lowball the tax rate they would have to impose. They say that 23 percent would be sufficient to fund the federal government. But this number is misleading. They would put a $30 tax on a $100 purchase. They say that is a "23 percent" tax because 30 is 23 percent of 130. Normally, we would say that was a 30 percent sales tax. Since a retail-sales tax that high would cause a lot of people to buy wholesale or resort to other forms of tax avoidance and evasion, the rate might have to go even higher. Or the government might have to convert the tax into a Value Added Tax levied at each stage of production.

According to its supporters, the sales tax would shackle the federal Leviathan. Every time you bought a pack of gum, you would supposedly remember how much you hate out-of-control federal spending. I very much doubt it would work this way. Most of us have a better sense of how much we paid in income or property taxes last year than of how much we paid in sales taxes. My guess is that a sales tax would prove easier to raise than an income tax. A VAT, which would be largely hidden from the people who ultimately pay it, would be even easier to raise--a veritable money machine for governments, as European nations have demonstrated.

A national sales tax is unthinkable. A flat tax is merely impossible. To replace our progressive tax rates with a single rate, Congress would face three unpalatable options. It would have to raise taxes on low-income taxpayers. It would have to accept a massive increase in the deficit. Or it would have to assume that the flat tax will have so extraordinarily positive an effect on the economy that the average tax rate can drop without increasing the deficit. Any of these options would be a very hard sell for a majority of congressmen.

Almost every interest group in Washington would mobilize to defeat a tax reform that abolished tax deductions. On conservatives' side would be just a few think tanks. There are good reasons to think that the mortgage-interest deduction does not actually benefit homeowners. Try to convince most homeowners of that after the homebuilders are done with their ad campaign.

SPENDING POLITICAL CAPITAL WISELY

The case for moving cautiously does not rest solely on the difficulty of enacting fundamental tax reform. It is also worth considering that other uses of political capital have a higher ratio of reward to risk. The votes may already be there for repealing the estate tax, or greatly expanding tax-sheltered savings accounts. Adding private accounts to Social Security would be an uphill climb, but would also move millions of voters into the free-market camp. By increasing the number of investors, increasing the extent of their involvement in capital markets, and making the Republican party appealing to them, these policies would make it easier to enact other conservative reforms in the future. Abolishing deductions, on the other hand, would consume enormous amounts of political capital without bringing us any closer to future policy victories. In this respect, it would resemble the 1986 tax reform.