Arnold Kling  

Consumption Taxation

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Writing in Slate, Tim Noah discusses consumption taxation, an idea for tax reform that goes back well over half a century.


Lester Thurow, a liberal economist, made the case two decades ago for a consumption tax that would include a generous income-based refundable credit to help people at the lower end of the income scale. More recently, Cornell University economist Robert Frank, author of Luxury Fever, proposed a consumption tax that would exclude all families earning less than $20,000.

Noah argues that while it might have been ok at one time for liberals to support consumption taxation, that is not the case today. He says that when the Economic Report of the President proposes shifting toward a consumption tax,

the whole (unspoken) idea behind the plan is to lower taxes on rich people and raise taxes on poor people.

If the Administration's idea is to raise taxes on poor people, then a consumption tax is not the right way to do it. For one thing, economists Steven Venti and David Wise have found that people with low incomes have just about as large a propensity to save as people with high incomes. As this article on their research says,

The top 10% of the lowest income group nonetheless had saved more than $150,000 per household. Meanwhile, middle-income folks, on average, had only $45,000 in assets.

Moreover, the only way that rich people can avoid paying a consumption tax is by saving instead of consuming. By saving, they increase the supply of capital in the economy, which will raise productivity and worker incomes. Thus, the overall impact of a consumption tax may be quite progressive.

On the other hand, from the conservative side of the political spectrum, Bruce Bartlett once worried that consumption taxation could become too efficient and popular, leading to bigger government. Now, however, he has changed his mind.

For Discussion. If the same consumption tax idea had been floated by a Democratic administration, do you think that Noah would be more supportive and Bartlett more antagonistic?


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CATEGORIES: Tax Reform



COMMENTS (5 to date)
David Thomson writes:

A flat tax plan has a snowball in hell chance of being passed into law. Thus, we must find other more realistic alternatives. I'm for anything that will eliminate the paper work associated with the standard way of paying taxes. We lose enormous productivity due to our filing obligations.

All citizens should pay some form of taxation. Poverty alone is not a good enough reason to avoid taxes. Every American should be concerned regarding how its elected officials and bureaucrats spend their money. However, if you don't pay taxes whatsoever--why in hell should you on a practical basis give a fat damn? Sigh, also think just how many tax lawyers and accountants will have to go out and find real jobs. A consumption tax seems politically viable. Am I being overly simplistic? If not, let's get this legislation passed as soon as possible.

Patrick R. Sullivan writes:

There's a better explanation of this than Noah's at David Warsh's website:

http://www.economicprincipals.com/issues/03.02.16.html

from which:

GT writes:

I think it was Larry Summers that said that a sales tax (or maybe a VAT tax but it applies in any case) was opposed by Democrats because it was regressive and opposed by Republicans because it was efficient.

He said that it would be approved that day Republicans realized it was regressive and Democrtas realized it was efficient.

achilles writes:

What would be nice is if the administration came out and explicitly proposed what type of consumption tax they wanted, laid out the parameters (what rate, what exemptions) etc. so that the policy can be debated openly instead of conducting piecemeal fiscal policy by stealth.

The ERP indicates that the administration is not likely to go for exemptions to make the system more progressive, instead they seem to be counting on income growth over the lifetime to preserve the progressivity of the system.

I also refuse to believe, until I actually see it, that a government will force home-owning Americans to give up their most cherished tax deduction (mortgage interest) and instead ask them to pay taxes on their consumption of the services of housing.

So I think setting this up as a left/right issue is way too premature. Glenn H. has to realize that if he wants a consumption tax he's not going to get it by stealth.

Bernard Yomtov writes:

The abstract of the Venti and Wise paper, at least, does not say that propensity to save is independent of income. It says that there is a wide dispersion of savings within income groups.

In any case, it's hard to see why the consumption tax wouldn't hit poor people, despite some saving, as long as the amount they pay, as a percentage of total income, is higher than their average income tax rate.

Consume 80% of your income, of which 20% goes to consumption tax, and you're at a 16% average tax rate. A single individual must have taxable (after deductions) income of about $33,000 to pay 16% income tax. The number is higher for married couples filing jointly.

Just an example, of course, but is it unrealistic? And if it's reasonable, doen't it suggest that a consumption tax will raise taxes on poor people?

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