The Regulatory State: Was the ‘nuclear option’ the only way Obama could rescue his second term?

Sure looks that way to analyst Greg Valliere of Potomac Research in his morning note:

BARACK OBAMA’S LAST HOPE is to preside over an activist regulatory era; chances of him prevailing on legislation are virtually nil.  So yesterday’s Senate vote to radically change filibuster rules was a very big deal.  It will guarantee confirmation of activist regulators and judges who will have enormous influence over every reg from climate change to Dodd-Frank. The 93 vacancies in federal courts will be packed with mostly liberal judges.

Pethokoukis, Economics, Taxes and Spending

Sorry, Keynesians, JFK was a supply-side tax cutter


In the new issue of the always must-read Commentary magazine, I review the new Ira Stoll book, JFK, Conservative.  The book’s analysis of President Kennedy’s economic policies is particularly enlightening. Folks on the left argue that conservative are wrong to call the Kennedy tax cuts “supply-side” as opposed to Keynesian. But I think the weight of the evidence is to the contrary:

 [Liberals] dismiss the comparison [between the Reagan tax cuts and the Kennedy tax cuts] by pointing out that one can be a good Keynesian and support temporary tax cuts to increase demand. And indeed Kennedy did argue that his tax cuts would put more money in people’s pockets.

But the president also highlighted, as Stoll shows again and again, the long-term supply-side, pro-investment impact of his plan. Kennedy didn’t see tax cuts as just a temporary fillip, which is why he demanded they be permanent. As Stoll quotes Kennedy, “Let me emphasize, however, that I have not been talking about a different kind of tax cut, a quick tax cut to prevent a new recession.” … Kennedy intended to make the tax cuts the centerpiece of his reelection campaign, a promise that would eventually be fulfilled in 1964 by his successor, Lyndon Johnson. And had Kennedy lived, Treasury Secretary Douglas Dillion said his second term would have featured calls for further rate reductions.


5 hard truths about US tax reform for the left and the right

Image Credit: shutterstock

Image Credit: shutterstock

Disagreement over tax reform is at the heart of the Washington budget stalemate. In a recent Q&A, AEI tax expert Alan Viard lays out some realities —  for the left and the right — that should inform the debate:

1.) Over the past 40 years, tax revenue has been about 17% of GDP. That is unlikely to be true in the future. Taxes look they are going up.

I think we will go up to the 20 to 21% of GDP level in the next several decades. Further on, we may have to go higher than that, but it will depend on what we can do on the entitlements side.  … But if you have a better tax system, you could raise 20 or 21% of GDP and have less economic damage than you had raising 17 or 18% with a really bad tax system, so I think that also needs to be put into the mix.

2.)  Raising the tax rate on investment income to the same level as labor income is a really bad idea.

When you look at either the capital gains tax or the dividend tax, that’s income that’s already been taxed at the corporate level. So to say that there should be the same individual tax on that income as there is on other income, it really doesn’t hold up because that other income has not been taxed at the corporate level, while the dividends and capital gains have been.

You know that we can split the taxation of this income into two pieces and do it at different levels in the economy, once at the firm level and once at the stockholder level. That’s fine. But those aren’t separate taxes. Those are actually part of the same tax burden, even if they’re being collected in two different places.

And so if we let ourselves get tricked, just by the administrative fact that we’ve collected it in two different places, failing to add these up and look at the total burden, that just doesn’t make any sense.

3.) Many tea party Republicans see the FairTax is a viable route to tax reform. It really isn’t.

I think the supporters of the fair tax have their heart in the right place because they’re trying to find a consumption based tax system that avoids the penalty on saving and in investment that’s built into the income tax. The specific proposal they’ve put forward, though, really does have a number of problems. And many, many economists have pointed them out.

First of all, a retail sales tax at that high of a rate is really likely to have a lot of enforcement and compliance problems. And countries that impose consumption taxes at that high of a rate, they tend to use a value added tax structure, which is really economically the same as a sales tax, but administratively is different because you collect it at multiple stages. And that just helps with the enforcement and the compliance.

So it would be a pretty modest change, actually, to say let’s do it in a value added tax administrative mode instead of a sales tax mode. But that’s I think the first change you need to make to their plan.

The rate is also not revenue neutral. They’re proposing a 30% sales tax rate and that’s not enough to replace revenue. And I think, given our deficit environment, obviously a tax reform is not going to be viable if it lowers revenue. So – and of course, there you could just raise the rate.

A bigger problem is that, there’s no progressivity in this and they – well, they have pre-bate that introduces some progressivity, but compared to the taxes they’re replacing, this would be a big shift in the tax burden, away from high-income groups towards middle-income and lower middle-income groups. And whatever you think about that politically, I think that’s just not viable.

4.)  A low-rate flat tax, another favorite on the right, is a better idea but still problematic.

I think the flat tax does deserve some consideration. Contrary to what a lot of people understand, it’s actually a consumption tax. It’s more progressive than the fair tax is because it builds in a relatively large exemption amount for workers.

It would be easier to enforce and comply with than the fair tax would. A lot of the proposals for a flat tax also have a rate that’s too low to match current revenue. Of course, you could just adjust the rate to take care of that.

So I think it deserves some consideration. Nonetheless, it does still shift the tax burden away from the top and towards middle and lower middle-income groups, although not as much as the fair tax plan would. I think from a political standpoint, that’s still going to make it tough sledding for it to be adopted.

5.) The future of the US tax code probably going to look kind of European.

I would like to see the progressive consumption tax option adopted. I think, though, that the X tax is hard to explain to people and it doesn’t really have a footing in our political debate right now. And so the odds are probably against that, sad to say.

I think that what we are more likely to end up doing is to have a value added tax alongside an income tax. It’s definitely not an ideal outcome. It means that we are keeping an income tax system that has a penalty on saving and investment. It means we have two tax systems available to the government, which would make it easier for it to raise revenue. But it is a better outcome, of course, than just jacking up income tax rates to stratospheric levels. So it leaves me with a mixed feeling, but that is where most other countries have ended up and I think that’s the single most likely outcome for us as well.

But I’m still going to hold out a glimmer of hope that instead of doing that, maybe we will go with the progressive consumption tax after all, which would certainly be a better way to go.

Follow AEIdeas on Twitter at @AEIdeas

Pethokoukis, Economics, U.S. Economy

You know, there’s an economy where they’ve been running Obamanomics for 30 years


President Obama has made it clear that he doesn’t think much of America’s market-oriented economic reforms that started in the late 1970s. All those tax cuts and deregulation policies gave America was middle-class stagnation and rising inequality. As Obama said back in 2011:

There is a certain crowd in Washington who, for the last few decades, have said, let’s respond to this economic challenge with the same old tune. “The market will take care of everything,” they tell us. If we just cut more regulations and cut more taxes—especially for the wealthy—our economy will grow stronger. … But here’s the problem: It doesn’t work. It has never worked. … Over the last few decades, huge advances in technology have allowed businesses to do more with less, and it’s made it easier for them to set up shop and hire workers anywhere they want in the world. … In the last few decades, the average income of the top 1 percent has gone up by more than 250 percent to $1.2 million per year. …  And if the trend of rising inequality over the last few decades continues, it’s estimated that a child born today will only have a one-in-three chance of making it to the middle class—33 percent. … And yet, over the last few decades, the rungs on the ladder of opportunity have grown farther and farther apart, and the middle class has shrunk.

I think Obama has his facts wrongs on inequality, middle-class incomes, and mobility, though his views suggest Elizabeth Warren rather than Hillary Clinton would be a more obvious successor.

But let’s put data disputes aside for a moment. Wouldn’t it be great if there were some real life natural experiment where on one side we had an advanced economy — like the US or UK — that dealt with the stagnation of the 1970s by liberalizing its economies, and on the other side an economy that chose to keep its labor market tightly regulated with strict rules on firing employees, kept corporate taxes high, shielded domestic markets from imports, and ran its financial system so as to discourage hostile takeovers. As Noah Smith points out, Japan is that counterfactual (h/t to Reihan Salam and Fair Jilt):

Buoyed by the last spurt of its postwar catchup growth, Japan managed to sail through the 1980s without having to face hard choices about the structure of its economy. …

Many features of the Japanese economy that are commonly attributed to culture are, in fact, the result of Japan trying to run a modern economy without neoliberal reform: powerful but inefficient corporations, little job mobility, low unemployment, a relatively equal income distribution, and a job market that is heavily rigged against women. Taiwan, which is probably the closest country to Japan in cultural terms, has much higher inequality, greater labor mobility, more gender equality, and a higher per capita GDP than Japan. Taiwan, of course, is a low-tax, low-regulation country that is heavily exposed to trade with China.

I’m am not sure I would prefer living in the Asian Obamaland — a nation of incremental innovation as opposed to disruptive innovation — the past three decades vs. the US. (Certainly seems less fun.)  Even less so if I were a women. Also don’t forget Japan’s massive national debt and falling birth rates, also a reflection of its economic stagnation. Something to consider as US policymakers try to figure out America’s next economic steps in the aftermath of the Great Recesssion. (And here is another take on the issue from earlier in the year.)

Pethokoukis, Economics, Taxes and Spending

This chart shows the real deception at the heart of Obamacare — and the rest of the US welfare state

Committee for a Responsible Federal Budget

Committee for a Responsible Federal Budget

It is the great unanswered question in Washington: how high are Democrats willing to try and raise taxes to pay for the promises of the American welfare state — Social Security, Medicare, Medicaid, and yes, Obamacare?

As the above chart from the Committee for a Responsible Federal Budget shows, a reasonable case can be made that over the next generation, spending will rise to historically high levels. And that increase will produce historically high and sustained debts and deficits unless taxes also surge to historically high levels.

Spending by 2035, for instance, would require tax revenue 34% above its average from 1973 through 2012 just to keep the budget deficit at its four-decade average of 3%. By 2050, revenue would need to be 58% above that 1973-2012 average to keep deficits at 3%.

And where is all that dough going to come from? Tax increases anywhere near that magnitude would require the US adopt a value-added tax (or absolutely kill economic growth by trying to do it through less efficient income taxes), which would raise the tax burden on rich and middle-class alike. Taxing carried interest isn’t going to cut it. Nor are the tax rates from the 1950s.

Yet Democrats continually make a point of saying that they only want to raise income taxes on business and wealthier Americans. This is every bit as much a deception as telling Americans if they like their health plan, they will be able to keep it under Obamacare. Every single economist in the White House and on Capitol understands the fiscal reality presented here.

But given the party’s overall opposition to significant means testing … well, the math simply doesn’t add up. This creates an eventual moment of truth for the left. William Voegeli in Never Enough:

Liberals have tried to establish an adequate political foundation for the welfare state by indulging the voters’ wish that someone or something other than themselves will pay for its programs. … Unless liberals discover an argument that will make a majority of the electorate feel good about passing much higher taxes to fund a much more ambitious welfare state, they will have to come to terms with the reality that a welfare state comparable to those in Western Europe is politically unfeasible, even unimaginable in America. The full meaning of this coming to terms would be for liberals to finally grapple with the question of the welfare state’s optimal size.

Just as the right needs to accept that demographics and political reality means government welfare state spending and taxes will almost certainly need to rise in the future — we are not returning to the 1920s — the left needs to articulate their limiting principles for the welfare state and the tax burden needed to support it.

Follow James Pethokoukis on Twitter at @JimPethokoukis, and AEIdeas at @AEIdeas.

Pethokoukis, Economics, Taxes and Spending, U.S. Economy

Why the Baucus corporate tax reform plan is anti-innovation, anti-growth, and anti-startup

America needs to lower its sky-high corporate tax rate. But there is a right way and a wrong way to do it. Senate Finance Chairman Max Baucus looks to haved just proposed the wrong way.

According to Bloomberg, the Baucus corporate tax reform plan would require “companies to take deductions for many capital asset purchases over a longer period … showing for the first time the tradeoffs in his plan to lower the corporate tax rate. … The changes proposed today would generate about as much money during the next decade as repealing accelerated depreciation, according to Finance Committee staff. A 2011 estimate from the Joint Committee on Taxation said that such a change would generate $724 billion over a decade. That’s enough to finance a corporate rate cut of several percentage points, though final estimates aren’t available. Baucus has said he wants to see the U.S. corporate tax rate, now at 35 percent, reduced to less than 30 percent.”

Ok, here’s your trouble:  Corporate tax reform should reduce the tax penalty on business investment. Cutting the corporate tax rate does this. But this gain is offset in part or in full if the rate cut is accompanied by a slow-down in depreciation deductions.

But it’s worse than that. This sort of tax swap can actually make the tax penalty on new investments bigger, which favors established businesses over entrepreneurial start-ups. As AEI’s Alan Viard has written:

For old capital, a rate cut paid for with slower depreciation is a big win. All of its future payoffs get taxed at the lower rate. Yet, it’s spared from the depreciation slow-down – the longstanding rule is that depreciation changes apply only to new investments.

If the overall reform package is revenue-neutral and old capital comes out ahead, then new investments have to pick up the slack. For new investments, the loss from the depreciation slow-down must outweigh the benefits of the rate cut, amplifying the tax penalty.

That means we end up with the worst of both worlds. First, we shower windfalls on investments that have already been made by giving companies tax savings that they were never promised. This reward for past investment is senseless – we can’t change the past. Then, we turn around and raise the tax penalty on new investments, which can still be changed. And they will be changed – the stiffer penalty will discourage investment and slow economic growth.

Although the details of corporate tax reform may sound technical, the stakes are high. We can’t afford to give windfalls for investments made in the past. Instead, we should reward the new investments that will help move us towards a prosperous future.

Economics, Financial Services, Pethokoukis, U.S. Economy

Two ways of thinking about Marco Rubio’s rejection of Janet Yellen

Image Credit: Pan-African News Wire File Photos (Flickr) CC

Image Credit: Pan-African News Wire File Photos (Flickr) CC

Here is Senator Marco Rubio’s statement on why he will vote against Janet Yellen to be the next Federal Reserve chair. On first glance, at least, it is probably representative of the GOP’s anti-Bernanke, anti-Yellen, anti-Fed, anti-QE critique:

“Sound monetary policy established by the Fed is critical for long-term investment and economic growth. Unfortunately, the arbitrary way in which interest rates and our currency have been treated, especially over the last few years, has created asset bubbles and financial uncertainty that limits our economic potential. In the long run, the Fed should publish and follow a clear monetary rule that will help provide greater stability about prices and what the value of a dollar will be over time.

“I appreciate the Senate Banking Committee’s work in vetting this nomination and asking important questions of Dr. Yellen during her confirmation hearing, which I’ve closely reviewed in deciding how to vote when her nomination reaches the Senate floor.

“While Dr. Yellen is an accomplished individual, I will be voting against her nomination to chair the Fed because of her role as a lead architect in authoring monetary policies that threaten the short and long-term prospects of strong economic growth and job creation. Altogether, she has championed policies that have diminished people’s purchasing power by weakening the dollar, made long-term savings less attractive by diminishing returns on this important behavior, and put the U.S. economy at increased risk of higher inflation and another future boom-bust.

“In light of all this and her inclination to support the Fed’s current accommodative policies, I don’t have the confidence that she is the best choice to lead this independent institution in the years to come.”

Now I have been making a number of points about these issues:

1.) If not for the Fed’s QE bond buying, interest rate cuts, and forward guidance, there is strong reason to think the US economy — like the euro zone – would have already slipped into a double-dip recession with unemployment back in double-digits. 

2.) Bubbles? None to be found in stocks or real estate. Now many skeptics of the Fed’s bond buying point to the bond market shellacking of 1994. They worry about a repeat as Team Yellen evetually winds down the current QE program. Goldman Sachs argues they shouldn’t. Also note that unemployment fell from 6.5% to 5.5% and GDP rose by 4.1% in 1994. Bad year for bond investors, not so much for everyone else.

3.) If the Fed was giving the US economy some sort of “sugar high,” we would be seeing higher inflation.  But we are not.

4.) Even with all of the above, as I recently wrote in National Review, “the Bernanke Fed has been far, far from perfect. Its passive tightening in 2008 helped turn a modest downturn into the Great Recession. (That definitely requires an apology.) And its on-and-off approach to bond buying has reduced QE’s effectiveness versus combining that policy with one that would target nominal GDP.”

So those views create the lens through which I analyze Rubio’s statement. If what Rubio is really looking for is a Fed chair who supports a) a clear, rule-based monetary policy, b) a single Fed mandate, and c) appreciates the value of a stable macroeconomic environment, then I can sort of understand a vote against Yellen since her views don’t seem to fit the bill. As economist Michael Darda wrote recently:

Although Yellen believes in guideposts and targets, she does not believe in any singular monetary rule as a binding constraint. Our preference for a nominal GDP level target guided by a set of market-based financial indicators does not seem to be in the cards for the time being. Thus, there is likely to be an element of discretion and judgment that supplements the Fed’s models and forecasts in the years ahead.

I would prefer a Fed chair who supports the single, clear, nominal GDP level target that Darda mentions. That would in reality satisfy Rubio’s criteria, I think,as well as those of many other GOPers. And given that growth — not inflation — is the bigger problem right now, it is probably a good thing to have a Fed boss whose thumb is on that side of the scale.

Right now many Republican are still caught up in an old-fashioned, Austrian, hard-money approach to monetary policy. But Rubio’s statement suggests that with a review of what Milton Friedman used to say about the Fed and monetary policy, market monetarism could soon make some in roads.

Follow James Pethokoukis on Twitter at @JimPethokoukis, and AEIdeas at @AEIdeas.

Pethokoukis, Economics, U.S. Economy

Legalization without citizenship wouldn’t be ‘amnesty’ — and might jump start immigration reform

Image Credit: shutterstock

Image Credit: shutterstock

Where are the “red lines” and what are the “must haves” in any immigration reform bill to ensure passage? Already President Obama has backed off the demand — much opposed by many Republicans — for a comprehensive mega-bill, telling The Wall Street Journal: “If they want to chop that thing up into five pieces, as long as all five pieces get done, I don’t care what it looks like.”

A New York Times story today suggests another area of possible rethinking and compromise to give reform new momentum. Houston hair stylist Glendy Martinez is an undocumented worker from Nicaragua. For her, legalization rather than naturalization is the highest priority. And many other of 11.7 million illegal immigrants in the United States seem to feel the same. Reporter Julia Preston explains:

Most groups working for immigrant rights vehemently oppose any legislation that would deny millions of people the opportunity for full equality. … But among immigrants there is no consensus. …“For many undocumented people, citizenship is not a priority,” said Oscar A. Chacon, executive director of the National Alliance of Latin American and Caribbean Communities, a network of immigrant organizations that includes many foreigners here without papers. “What they really care about is a solution that allows them to overcome their greatest vulnerabilities.”

Republicans point to low rates of naturalization among some legal immigrants — 36 percent among Mexicans who are eligible, according to the Pew Research Center — to say that citizenship is not vital. Some Republicans also worry that by offering citizenship, they could create millions of future Democratic voters. …

Among Latinos, a growing electorate that both parties want to court, sentiment for a path to citizenship is strong. In a recent national survey by the Public Religion Research Institute, 67 percent of Latinos said immigrants here illegally should be allowed to become citizens if they met certain requirements, while 17 percent said they should only become legal residents.

The actual priorities of the undocumented — as opposed to the political goals of their supposed advocates — are not surprising. As Boston College and Brookings scholar Peter Skerry pointed out in a National Affairs piece earlier this year, nearly a quarter century after President Reagan granted legal status and a path to citizenship to nearly 3 million undocumented immigrants, “barely 41% had gone on to exercise the option to naturalize. In other words, when offered the chance to become citizens, the overwhelming majority of the undocumented have settled for less.”

So Skerry proposes a deal: forget about most if not all the hurdles — fines, back taxes, work and language requirements — that some would put on the path to permanent legalization and then eventually after many years to citizenship. Instead, offer “lenient terms of legalization …  [but] prohibit them from ever becoming eligible for naturalization.” They would instead become “permanent non-citizen residents” without the vote. Millions of the undocumented could then “come out of the shadows” and participate in American life without fear of deportation while also suffering a credible penalty that doesn’t make the agreement amnesty.

This new class of resident would then be one of number of different categories of people living in American society that have proved sustainable over the decades. American Somoans aren’t US citizens but they have US passports and can travel freely into and out of the United States. Residents of the US Virgin Islands, the Northern Mariana Islands, and Guam are US citizens but have no voting representation in Congress. DC residents are represented in the Electoral College but not in Congress. The 4 million residents of Puerto Rico can’t vote for president, mostly don’t have to pay federal income taxes but are eligible for the draft.

How the rights and privileges of Skerry’s permanent, non-citizen residents would be similar to or different from those of green-chard holders could be negotiated, and he explores those issues in the piece. But as Skerry concludes:

This proposal also presents the opportunity for an even sturdier and more enduring political accommodation on this contentious issue — one that would benefit not only today’s undocumented but also their children and grandchildren. It would speak directly and sympathetically to the frustrations and anger over illegal immigration felt by many Americans. And it would do so by not treating the undocumented as victims trembling in the shadows, but by calling them to step forward and assume responsibility for their decisions — and then imposing on them a clear and decisive penalty.

All this would be achieved, however, without maligning illegals or treating them as criminals. Nor would this approach pander to the overheated emotions evident among so many Americans on this issue. Instead, it would be premised on all Americans’ acknowledging our societal complicity in the presence of the 11 million undocumented among us.

Given the huge economic upside of greater immigration, particularly of the highly educated and skilled, at time of stagnation, perhaps both sides should at least consider this sort of imperfect compromise.

Follow James Pethokoukis on Twitter at @JimPethokoukis, and AEIdeas at @AEIdeas.


Another unfortunate conservative paean to adamantium hard money, Austrian economics, and depression

Image Credit: DerFussi (Flickr) CC

Image Credit: DerFussi (Flickr) CC

I have to take issue with virtually everything in Jeffrey Bell’s piece in The Weekly Standard (one of my favorite magazines, BTW) on the Fed, Janet Yellen, and quantitative easing. But here are my my major objections:

1. He allows former Fed bond trader Andrew Huszar’s WSJ op-ed, “Confessions of a Quantitative Easer,” to do his heavy lifting for him. This is unfortunate. Huszar not only argues that the central bank’s quantitative easing programs have benefited only big banks, but that the US economy would be no worse off if the Fed had stayed on the sidelines. This is implausible. As I have written:

First, each time the Fed has engaged in a new round of bond buying, good things have happened. With QE on, stocks, rates, confidence, and inflation expectations have all generally risen, reflecting anticipation of higher economic growth. QE off, just the opposite has tended to happen. Look to markets rather than models when gauging the effectiveness of Fed policy.

Second, the combination of tight money and fiscal austerity has been a disaster for the euro zone. The region has already suffered a double-dip recession and might be headed for a third. Unlike the Fed, the European Central Bank (ECB) has cut interest rates only slowly and eschewed its own QE at the behest of Germany. The U.S., on the other hand, has been slowly growing for more than four straight years. Since the ECB’s two rate hikes in 2011, when unemployment was around 10% in both the euro zone and the U.S., the euro zone’s jobless rate has risen above 12% and ours has fallen close to 7%.

Third, consider how America has weathered its own considerable fiscal austerity. Despite the second straight year of sequester-driven spending cuts and large hikes in labor, investment, and payroll taxes, average monthly jobs gains of 186,000 are now running ahead of last year’s 183,000-per-month pace. If you use the new “GDP plus metric” from the Federal Reserve Bank of Philadelphia — it blends gross domestic product and income accounts — real GDP growth averaged 2.3% in 2012 and has averaged 2.7% so far in 2013, according to calculations from economist Scott Sumner. What happened to the 2013 recession some Keynesians and supply-siders were worried about? The Fed happened.

When I brought this information and these counterfactuals to Huszar’s attention on CNBC, he seemed flabbergasted. I am guessing Bell’s reaction would be similar.

2. Bell also writes approvingly of the senatorial criticism of Yellen during her confirmation hearing:

If there is another economic meltdown, the Senate Banking Committee can’t be accused of not fearing it. Nebraska Republican Sen. Mike Johanns characterized the market as being on a “sugar high,” a term later echoed by West Virginia Democrat Joe Manchin. Johanns quoted the current Dow Jones Industrial Average and suggested that if the Fed were to wind down its balance sheet, the market would fall by a corresponding amount. Tennessee Sen. Bob Corker called easy money an “elitist policy” that serves the fraction of Americans whose worth is mainly denominated in financial assets. Everyone in the room seemed dispirited that these were the results the Fed had to show for itself, Yellen included.

The only thing lacking here is any evidence of actual, you know, bubbles or of any inflation, something that would surely be evident if the Fed was producing a “sugar high”.

3. Bell’s hard-money, Austrian populism — “Fed money printing has widened the wealth gap while fueling potential asset bubbles” — ignores the reality that what would really be bad for middle-class America is another recession. It seems what Bell is doing is using the Fed’s QE policies as a way of turning the old “trickle-down” economics charge back against the left. But in doing so, he further fuels the 1930s-style, deflationary economics that has gripped a large portion of the GOP. I urge him to read some Milton Friedman, ASAP. Also, read this.

Follow James Pethokoukis on Twitter at @JimPethokoukis, and AEIdeas at @AEIdeas.


Pethokoukis, Economics, Taxes and Spending

The hard truth about the flat tax, FairTax, and where the US tax burden is headed: My Q&A with tax expert Alan Viard

Image Credit: Shutterstock

Image Credit: Shutterstock

How should America reform its tax code in a way that boosts economic growth and also raises enough money to pay the bills? There are few better people to ask than Alan Viard of the American Enterprise Institute.

Prior to joining AEI, Viard was a senior economist at the Federal Reserve Bank of Dallas and assistant professor of economics at Ohio State University. Viard has also been a visiting scholar at the U.S. Department of the Treasury’s Office of Tax Analysis and a senior economist at the White House’s Council of Economic Advisors. He received his Ph.D. in economics from Harvard University and a B.A. in economics from Yale University.

I chatted with Viard for my recent Ricochet Money & Politics podcast (see above toolbar) about smart ways to reform the tax code — and those that are dead ends for political and policy reasons. (Sorry, flat tax and FairTax.) Viard also spoke about the unpleasant reality of where the US tax burden will need to go in coming decades. (Spoiler: up.) Here are the lightly edited highlights of our conversation:

How progressive is the U.S. tax system versus what we see in Europe? 

That’s a very interesting question. So if you actually look at the progressivity of the tax system, our tax system is considerably more progressive than the tax systems in Europe.  Now, I – and the reason for that in large part is that we rely much more heavily on income taxation than they do, and that in turn is because we do not have a value added tax the way that all the countries in Europe do.

So our tax system, interestingly enough, is more progressive than the European tax systems. Now, I want to make one point very clear, though.  Even though it is more progressive, it achieves less redistribution. And the reason is because it is a smaller tax system. We have fewer taxes and fewer transfer payments. And so even though the taxes we do collect are skewed more to be collected from the high-income groups, we’re still not actually taking as much from them simply because our overall tax burden is smaller.

And so that’s an interesting choice that countries can make, I think – whether you have a smaller tax system, and then I think you do have somewhat more latitude to be more progressive, or do you want to have a bigger tax system which is not as progressive. And the second is what Europe does.

The problem that I see as we head into the upcoming decades is we know that our tax system is almost certainly going to become bigger simply because we’re going to have to raise more money to pay for retirement benefits to the baby boom generation and the future generations of higher life expectancy, and more important, to pay for the health care programs that we have where medical costs are rising rapidly.

What some people seem to suggest is that as our tax system becomes bigger, and in that respect more like Europe’s, it also needs to stay at least as progressive as it is today or even become more progressive. And so that really is taking us off into a direction that is very questionable.

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