Why the FairTax isn't and won't be. Here's something better ..

Russell Turpin deafbox at hotmail.com
Thu Apr 10 15:07:49 PDT 2003


Jeff, I'm entirely on the side that thinks the
income tax is particularly pernicious and should
be eliminated. But I think the "fair" tax and
other consumption tax schemes are so problematic
that they practically serve to keep the income
tax system in place, by presenting such poor
alternatives to it.

There are several problems with the "fair" tax.
First, consumption taxes aren't fair. Even with
a "povery level" exemption, people who are poor
or middle class consume far more, as a fraction
of income or wealth, than those who are rich.
Because of how "consumption" is defined, some
of the things the rich use or consume will go
completely untaxed, e.g., land, baseball teams,
and anything that can be made to look like a
capital good or investment. Bill Gates will sell
his stock tax-free, and buy a thousand acres of
Washington forest tax-free, while Joe Shmoe gets
whacked for 23% on his clothes, bicycle, books,
music, pots, and pans.

Second, a consumption tax, by focusing on just
one kind of transaction, pretty severely distorts
the economy. Now yes, no tax is truly neutral, and
the income tax, which mostly acts as a payroll
tax, is also bad in this regard. But a retail tax
is even worse. In case you haven't read,
consumption is the one thing that has kept the
current economic malaise from turning into a real
recession. (So far.) Are you sure that *that* is
what you want to tax, to the exclusion of
everything else?

Third and related to the above, I don't think the
proponents of the "fair" tax have thought about
its international consequences. A 23% retail tax,
which is what this actually is, would cause
massive purchasing from overseas. Think Canadian
pharmacies, multiplied a thousand-fold. Now, yes,
that can be cured, by imposing a 23% import duty
to go along with the retail tax, and every
domestic business from the auto makers to Dell
would insist on this. Do you also impose a 23%
export duty? If not, every one of our trading
partners will launch a campaign against our new
tax system, that it subsidizes exports by making
them completely tax free, at the expense of imports
and internal consumption. Now yeah, that might be
a good thing for the US, until other nations do
likewise, it's still necessary to think about how
many treaties and trade agreements this violates.
And if we do impose such an export duty, what are
the economic effects of that? How much bigger does
our current account deficit grow? How do we modify
NAFTA? A large part of the problem is that 23% is
a HUGE slice of the pie. It doesn't get lost in the
wash.

I think a more realistic and fair solution that
does not so greatly distort the economy is a
broader-based transaction tax. Instead of a rate of
23%, think of a rate that is a small fraction of
that, say 3%. But apply it to all transactions,
wholesale as well as retail, and include real estate,
acquisitions, equity purchases, interest, and other
capital transactions. (Don't worry: there will still
be liquidity in the equity markets, because short and
speculative trades will be made as options, futures,
and derivatives, rather than in the stock itself. In
other words, an arbitreur, instead of buying shares
at a 50$/shr, will purchase a six-month option at
$2/shr or a two-year LEAP at $5/shr, so the effective
tax rate to "control" a position is .1% or .3% of the
position, or something else so small that it does get
lost in the wash.) Yeah, there is still some issue
with imports or exports, but not nearly so large an
issue as with the "fair" tax.

A transaction tax is simpler than the retail tax,
because there is no need to distinguish between
retail and wholesale purchases, to identify
wholesale dealers, or to acquire a retail tax
certificate. When money changes hands, it gets
taxed. There would have to be some rules about
which party collects and pays. Since businesses
already track what theyt buy, sell, or broker,
there's not much added accounting. And yeah, let's
except transactions between inviduals for small
items and labor, so that you don't have to worry
about hiring a yardman or selling your computer.


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