VAT again - Bill Clinton's plan to introduce value-added tax to help finance health care reform - Editorial

National Review, May 10, 1993

NOW THAT the value-added tax is a "serious option" for financing health care, some economists are touting its alleged advantages. Compared to income taxes, a broad-based consumption tax would indeed stimulate savings and investment. Sales taxes like VAT can be imposed on goods entering the country and rebated on goods leaving, thus helping close the trade deficit. In theory, computing tax liability under a uniform, single-rate VAT would be a piece of cake compared to the infinite complexities of corporate-income taxation.

But the theoretical case for VAT depends on its being used to replace, or at least reduce, existing taxes. Back in the 1950s and 1960s the nations of Western Europe replaced the turnover tax, a quirky tax that companies paid on the full amount of every sale rather than just the value added, with a VAT. More recently, Canada introduced a Goods and Services Tax to replace a tax imposed on manufacturers, and Australia considered--and rejected--a 15 per cent VAT in exchange for cutting other taxes. Only Mr. Clinton has the chutzpah to contemplate VAT as an additional tax, and this while increasing the rates of existing taxes.

What makes a VAT so dangerous is that politicians can't resist raising a tax whose burden is incorporated into product prices, and thus hidden from voters. Britain's VAT rate was 10 per cent when the tax was first introduced in 1973; it is 17.5 per cent today. Sweden's rate is now 25 per cent, up from 11 per cent in 1969. In fact, almost every European country has increased VAT rates frequently and substantially using the revenues to finance social spending. As a result, while the share of GDP taken by taxes has remained constant in the VAT-less U.S., it has risen steadily in Europe. The alleged economic benefits of VAT were nullified by the rising overall tax burden.

Nor is the VAT all that simple. In practice the "neutral" VAT is levied at different rates on different products. Food and clothing are usually taxed lightly to mitigate regressivity, and non-profit institutions are usually exempt from the tax. This makes for an administrative nightmare, since each business must calculate the VAT charged to it by every one of its suppliers and apply for a rebate of the tax. Moreover, based on the European experience, the IRS would require twenty thousand additional employees to administer a national VAT, at a cost of at least $1 billion. A recent Wall Street Journal editorial claims that nothing less than a 7 per cent VAT, yielding an additional $210 billion a year, makes sense in the light of these costs.

Governors and mayors, having long considered the sales tax as their exclusive turf, would have some choice words for a President who dared intrude. A VAT would also stymie Mr. Clinton's goal of lower interest rates. At a minimum, imposition of the tax would produce a one-shot burst of inflation.

Health-care reform needs appropriate tax approaches. Income-tax credits, for example, could make it easier for uninsured individuals to purchase private health insurance. A VAT, however, would merely conceal the true cost of health care from taxpayers. Its imposition would make genuine cost control less necessary--and thus much less likely.