The first time I every heard of value added taxes was in the early 1970s, and all the stuff I saw then said the VAT was a bad tax, you raised as much from a sales tax with far lower administrative costs. The economic and policy literature was as one-sided as I have ever seen on a topic, saying that the alternative to VAT, a simple retail sales tax, was cheaper to administer and yielded the same revenue. But both are regressive.
But many of our higher-tax OECD compatriots have VATs. If you ever have to contend with them, they are a huge pain for businesses (I had a wee taste with Australia’s GST, ugh). And those economists of years past missed a few bureaucratic virtues of the VAT:
1. It appears to hide the tax, Dumb as that sounds, it appears to work. Not adding the tax at the till seems to go over better with the chump populace, This is not trivial. Jean Baptiste Colbert once said, “The art of taxation consists in so plucking the goose as to obtain the largest possible amount of feathers with the smallest possible amount of hissing”
2. VAT is a great tool for increased information capture. VAT leads to more frequent, and for some businesses, more detailed reporting Welcome to the total surveillance society.
VAT, like all sales taxes, is particularly regressive. And it should in theory reduce consumption. Given the duty assigned by China, to shop so as to keep their factories running, a VAT would not endear us to them.
However, Greg Mankiw is raising alarms about income taxes, with a 5.4% surtax proposed fpr “top earners”, which his blog does not mention are defined as those earning over $1 million a year . Quelle horreur! Raise those marginal tax rates and everyone will give up and act just like the French and decide to have two and a half hour lunches.
Hhhm, Marginal tax rates are high in New York City (we even have city income taxes) and our sales tax is over 8% (atlthough this being a liberal enclave. food and clothing items below a certain price point are exempt) yet this is a famously workaholic town. Of course, you can only conclude so much from one data point, but it still suggests that high taxes are not necessarily a disincentive to income-earners.
In all seriousness, a VAT is a bad idea. Higher taxes are in our future, so we might as well get used to them. And the more visible the better, The more obvious it is how much we are taxed, the more the average guy is likely to demand a higher level of government services. Despite the often loudly trumpeted distaste for the European model, the Europeans I know do not seem unhappy about their taxes because they perceive that they are getting good value for their tax dolllar (before you think this to be too Pollyannish, they actually do complain less than Americans and even have the occasional nice word, In fact, the Germans and Austrians I know think our system is nuts. However, my sample excludes southern Europe). We’ve done the reverse here, taking as a given that low taxes (for an advanced economy) means we should reign ourselves to crappy service.
What is more than a tad distressing about this piece by Albert Hunt is that it show Bob Rubin still has a very influential role in policy, and appeasing the markets is seen as a major policy objective. That has the effect of putting considerable power in the hands of those who claim to know what it takes to appease the gods keep them happy.
From Bloomberg:
The Center for American Progress, run by former President Bill Clinton’s one-time chief of staff John Podesta, serves as unofficial kitchen cabinet and idea catalyst for this administration.
The center had three recent private sessions of economic heavyweights, ranging from ex-Treasury chief Robert Rubin to liberal activist Bob Greenstein; one participant described the almost universal mood as “gloomy.”
Podesta will soon unveil plans for a public forum in September laying out the daunting fiscal challenges, while trying to fashion a “progressive” agenda to deal with them. Any serious effort will almost certainly include substantive spending cutbacks.
The centerpiece might be moving to a consumption tax, which is fraught with political and economic implications…
Some nervous congressional Democrats, prominent liberal economists and Warren Buffett believe another stimulus injection may be necessary. That might not be achievable politically, however, unless the economy really tanks or it is done in conjunction within a more comprehensive strategy dealing with the long-term, mind-numbing budget shortfall.
Roger Altman, an investment banker, doesn’t dispute the case for addressing economic sluggishness and only later turning to the looming fiscal crisis. He questions whether the public or the markets have such patience. Deficits don’t usually resonate much with voters….
Compared to boosting taxes directly on middle-income earners or slashing domestic programs, a value-added tax as a partial replacement for income and possibly some payroll taxes may be a more attractive alternative, Altman believes. A growing number of Democrats, such as Senate Budget Committee Chairman Kent Conrad and Obama tax-reform adviser Paul Volcker, concur.
If so, it will cause a political bloodbath, particularly if it is a big net revenue-raiser. The “sales tax” label can be lethal. Consumption levies are usually regressive, hurting middle class and poorer people the most, and almost three decades later there remains a belief that espousing such a measure cost the former House Ways and Means Committee Chairman Al Ullman, now deceased, his supposedly safe seat in 1980….
The Obama administration would like to defer any major action on closing the budget gap, certainly until after Congress deals with health care.
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Speaking of taxes, I was looking through the St. Louis Fed data series, and increases in inflation (even as small as 3 – 5%) are highly correlated with drops in real retails sales. When the powers do happen to engineer inflation, God help us. Real retails sales will most likely take another dive from their current -10% levels.
With regard to 'not scaring the goose': the netherlands has perfected that system, by having wages pre-taxed at the payroll; when submitting your income tax forms, that usually results in a small amount to be given back.
"Despite the often loudly trumpeted distaste for the European model, the Europeans I know do not seem unhappy about their taxes because they perceive that they are getting good value for their tax dolllar."
well… if only it were so :)
gronkk – same thing in Slovenia. This makes taxation not at all transparent. It also supports a feeling that taxes is something that happens (and should happen) to other people (the "rich bastards", ie. everybody except the speaker).
It would be an interesting experiment to change the system to receive both the full payment and the set of instructions on what amount to send where to comply with the regulations. I bet the prevailing sentiment would swiftly change.
crt,
Yes, will go back and hedge a bit. Scandinavians do seem genuinely happy with their government services, the French I know seem to complain no more than they complain about everything, and they actually do say positive things about some aspect of government service, so my limited sample says they are pretty OK with it, and the Germans think we are nuts not to ahve a set up more like theirs. Dunno re Belgians or Dutch, and southern Europe is likely a completely different kettle of fish.
Prejudiced indeed…
Several points to balance your negative assessment of VAT.
– You seem to think that not progressive implies regressive, it is not true. VAT is not regressive. It is just a proportional tax, that is very difficult to avoid. Rich people manage pretty well to avoid income tax thanks to numerous loopholes. VAT is much harder to escape. It is therefore quite efficient in taxing the top percentile of the population.
– Privacy issues : I just don't get it ! Direct taxes are by far the most invasive in terms of privacy. It is quite obvious.
– VAT is a tax that is mostly targeted at consumption, which is too high in most developed countries anyway. It is better to tax consumption than value creation (I.e. income)
– VAT is a very good redistribution mechanism for the proceeds of a carbon tax. With a lean government, it could even applied with a negative rate !
– Finally, Singapore – who is tagged by Thomas Friedman to be much more often on the right side than the wrong side as far as structural economic decisions are concerned – has embarked in a very strong process to switch is tax base from income based tax to consumption based tax. They may have good reasons to do it…
We have had VAT here in Canada for a number of years, and it is working out quite well.
It smooths out government revenue somewhat, so there are less dips and peaks than in a purely income and profits based tax.
Very importantly [in my view] it taxes the underground economy [every time members of that economy spend some of their earnings].
Yes NYC has high marginal tax rates and that's why half the hedge fund business is in Greenwich CT. Taxes do matter as much as left would like to pretend they don't.
VAT has four main advantages:
1. It is cheap to collect.
2. It is difficult to evade.
3. It gives exports an advantage by being VAT free.
4. It allows food to be VAT free.
Re your: "VAT, like all sales taxes, is particularly regressive."
Tax is always paid by people and they are ultimately and entirely the retail consumers at the end of the supply chain, without whom businesses and employees could not pay, that is collect money from consumers and pass some of it, i.e. tax, directly on to government. Such indirect methods of taxing consumers are great ways of deluding the public for political purposes. These include concealing the truly huge cost of government and perpetuating the false impression that the rich pay and the poor do not – poor voters to note that the best party is the one which taxes the rich most. Clearly the tax system really comes down to implicit taxation by consumption. And, the real equivalent flat sales tax is the same for everyone rich or poor. And food is not tax free either.
By taxing only end user consumption, food can be made entirely tax free.
these "services" you mention mostly involve transfer payments to favored groups of voters–as toxic as the tax itself.
Obama has no desire for revenue reform to be raised as an issue until after the expiry of his second administration.
We should start by restoring progressivity to the income tax. And a payroll tax is coming, so grit ones teeth. But a VAT . . . it's in the details where the devil lies. I'm against strongly regressive taxes because out tax structure in this country is already strongly regressive: remember all those state and local taxes. To the extent to which VAT schedules could be defined as progressive and preferential there may be some place for them, in principal. That is, if the schedules were readily accessible and specifically undesirable kinds of consumption either were the only ones on which there was a VAT or had higher VAT then others, there might be some room for this. And Gawd knows we need to raise more revenue in this country for the (improved) services we are and will be voting ourselves.
To me, the big problem with a VAT is that once it is in place the Congress will prove constitutionally incapbale of restraining its members from dicking hte numbers up to fund their pet profligacies like a permanent TARP for Frankenbanks and military incursions to [your countyr here] each electoral cycle. To me, we are going about VAT vs. payroll exactly wrong—which figures since we have our heads and our fundamentals inverted in the country where taxes are concerned. If we had a VAT it should be limited and expense-dedicated: this is how we should fund health care, for example, whereas progressive income taxes should back the general fund. This is part of what has keep Social Security relatively intact, financial games with the government's overall ledger notwithstanding. So a VAT it we get one should be dedicated to specific kinds of services. But now, Congress will pass one to back general expenditures, then quietly raise the numbers pleading incontinence.
Again from a Canadian perspective, the GST (our VAT) is working well. Nobody likes it but it has helped in a couple of ways:
1. It helps to reduce consumption.
2. It provides a secondary tax that does not hit income directly, keeping income taxes reasonable.
The regressive aspect is ameliorated by credits. I personally get a $120/year GST credit.
I really don't see a better alternative for the US as it searches for a way to reduce imports and pay for the its past living beyond its means. The situation is bleak, and drastic fixes are required.
I wish I could fill in the southern Europe blanks for you, but I don’t know how to compare it. I can’t compare it to northern Europe because the differences would be too subtle for me to discern. And I can’t compare it to the US because it just doesn’t compare.
I would pick on your statement, “VAT, like all sales taxes, is particularly regressive.” It doesn’t have to be. VAT isn’t a tax on margins. Value added is not defined as margins like we might do industrially. That is to say a high margin business doesn’t necessarily pay higher VAT than low margin businesses. Therefore, boats might pay different rates than food even if industrial margins were the same. The dumbest thing about US sales taxes is precisely that they don’t make that distinction. You pay either 0% or 8%. Cest ca. And the 0% is more likely to be the golf memberships. In the EU those automobiles which are perceived as luxury brands pay more VAT than those which are not. I don’t think there is any way to get Americans to check off on that. It’s not part of their mind set. Who gets to decide what is a luxury?
I don’t know what gives anybody the idea that it would be easier to administer than an income tax or that there would be more compliance. What did the most to reduce grey markets in southern Europe was a unified currency. VAT is a better substitute for sales taxes than income taxes. There are income taxes in Europe. There are no “sales taxes” (that I know of). What seems worst to me is that we in the US would have both sales taxes and VAT taxes and I assume also income taxes. Plus my instinct is that if the French like it I wouldn’t.
It appears to hide the tax, Dumb as that sounds, it appears to work. Not adding the tax at the till seems to go over better with the chump populace.
Well, that's a reason few people complain about gasoline tax. They see the price with the tax already included instead of the gas price and the state/federal taxes added after the fact.
Raising the "total surveillance society" concern for a potential VAT is like complaining about the offensive odour of the person that already punched you out.
Ironically, i think the benefits of a VAT are precisely what will make it so politically impossible. Freedom of consumption and tax avoidance are the privilege of the American upper-classes — given what's already happened to them, the working classes will not care if their bread costs $2.14 instead of $1.99, and credits can easily offset that.
Some of the comments above, frankly, do not make a lot of sense.
VAT, or any consumption tax, IS regressive by definition. Lower income people consume a higher proportion of their income than wealthy people, and of necessity. A wealthy person might be a Michael Jackson style spendthrift, but that is an option, not a requirement, while lower-income people struggle to make ends meet and cannot readily reduce consumption. So consumption taxes reduce their quality of life, when it wasn't great to begin with.
A VAT can be designed to mitigate those regressive elements, but a consumption tax is regressive. Sayin' it ain't so does not make it so.
Second, I do not know where the "cheap to administer" assertion comes from. It is far more costly than an retail sales tax. You have tax assessments and collection at all points of the production chain, not at the final point of sale, where you get the same end net revenue with less effort. Trust me, the literature is robust on this point.
Third, the interim collection also imposes a greater administrative cost on businesses, most of whom would not be consumption tax filers under a retail sales tax regime.
And I have dealt precisely with this sort of paperwork in Australia. It is a bloody nuisance, actually quite a burden. Australia, at least when I was there, was one of the only countries to have a declining number of small businesses, and the GST (which includes service businesses) was one of the reasons.
A VAT is certainly a nuisance, but I'm sure that health inspections are a nuisance for restaurants too. Nuisance doesn't necessarily mean deterrent.
From the Canadian experience I think there is some potential benefit to small business* . Certainly the continued reduction in business taxes we've had in Canada of late would not be possible without the GST(VAT) that we have in place.
As a small business owner, I would much rather pay lower business taxes, and pay a bookkeeper/accountant to deal with the VAT, than have higher business taxes, knowing that as a little guy I'm probably getting screwed while my big corporate competitors can hire teams of accountants and lawyers to avoid taxation.
*disclaimer: i have no data to back up, purely speculating
YS:However, Greg Mankiw is raising alarms about income taxes, with a 5.4% surtax proposed fpr "top earners", which his blog does not mention are defined as those earning over $1 million a year . Quelle horreur! Raise those marginal tax rates and everyone will give up and act just like the French and decide to have two and a half hour lunches.
Hhhm, Marginal tax rates are high in New York City (we even have city income taxes) and our sales tax is over 8% (atlthough this being a liberal enclave. food and clothing items below a certain price point are exempt) yet this is a famously workaholic town.
Let's be fair:
Point, Set, Match to Yves.
OK, regressive then. US income taxes are regressive too; in practice if not by definition. The only advantage that I can think of is that because it is a consumption tax income (and profits) are not penalized. There is no reason to move profits to some hidden jurisdiction. (Though, I imagine there is a lot of EU money in those places too. ) (???) If you are asking if you would like it if US income taxes were replaced by VAT, I wouldn’t know what to tell you. Ask yourself if you would prefer the income tax were replaced with a variable rate sales tax.
The way it is practiced in the EU makes it hard to compare. EU taxes are stratospheric next to ours. But then their people get more from government. Their businesses don’t. If I were to open a business and I had a choice, I would want it in the US. But it’s in my nature not to want anything from government or to give them anything either. You may have a different view.
The bigger problem would be having both income & VAT taxes. I can’t imagine having to comply with both. Quelle horreur.
Probably, I should have put "difficult to evade" as the number one reason for Europe adopting VAT as its sales tax. But my main reason for commenting was to assert that the aggregate burden of taxation always ultimately falls on the end consumers as a proportional cost of their consumption. Since flow of money is analogous to flow of current in an electric circuit, a simple economic network can be modelled in a similar way to an engineering problem. I offer a proof that income taxes are no more progressive than sales taxes on my web page:
http://ecforster.netfirms.com/Tax/Doc1.html
However, I would not expect any conventional economist to agree.
We are sliding into depression and taxes to reduce consumption are on the table? This simply isn't the time.
The forthcoming tax on carbon that will be levied on every fossil fuel component in the supply chain will be a de facto VAT. The Malarkey-Waxman cap-and-trade bill that passed the House of Reprehensibles is the stealth VAT. It will be a balloon tax on all the essentials that the poor and middle class depend on (food, electricity, heating, transportation, shelter, etc.).
Just one example – every stage of the food chain will be hit hard by an increased carbon tax in the form of higher fossil fuel costs: from all the fossil fuel used to plant, tend, harvest, and store grain; to transport grains for processing; processing of grains; transport of processed product to warehouses and eventually to grocery stores; to heat, light, and temp control grocery stores; to the trip back and forth to the grocery store.
GST uuuuuughhhhh.
Bureaucrats love this as it shifts the collection and administration burden to businesses. Big business doesn't mind so much (they have systems to cope and its easy to rort at that end.
But it's just a lot of work and financial friction (ie loss of productivity) for small businesses.
It also centralises tax collection = $ power.
In AU, the tax was actively supported by business lobbies, public service (bureaucrats) and gov't, and opposed in every popoular poll.
Guess who was right?
>>> Despite the often loudly trumpeted distaste for the European model, the Europeans I know do not seem unhappy about their taxes because they perceive that they are getting good value for their tax dolllar (before you think this to be too Pollyannish, they actually do complain less than Americans and even have the occasional nice word, In fact, the Germans and Austrians I know think our system is nuts. However, my sample excludes southern Europe). We've done the reverse here, taking as a given that low taxes (for an advanced economy) means we should reign ourselves to crappy service. <<<
Vinny G. here, currently on self-imposed vacation exile to Europe, but very much looking forward to returning to the Greatest Nation on Earth, namely the U.S. of A, of course.
Firstly, most Europeans I know (both, from the northern as well as the southern parts of the continent) are so completely brainwashed into thinking this old, tired, dirty, lazy, entitled, and decrepit Europe is now somehow heaven on Earth, any attempt at having an intelligent conversation with the vast majority of them is little more than an exercise into futility. Therefore, it comes as no surprise to me that the Germans and the Austrians exhibit such deceived beliefs.
I am sorry, but a little common sense and simple logic need to prevail here. With 15%, 18%, or even 20% VAT across most of Europe, on top of already astronomically high income taxes, combined with very high prices for basic necessities of life (food, gas, heating, housing), and salaries that are on average half of those in the U.S., it is the European system that is nuts, not the one in America.
Now, before one of the aforementioned brainwashed Europeans interjects here too loudly about their socialized health care, I will state that most heavily-socialized health care systems of Europe are complete and utter disasters. Case in point, Britain’s much trumpeted NHS is a complete failure at everything it does, and, as a former NHS doctor, I know this first hand. If any Americans here do not wish to pay high health insurance fees in the U.S. (which admittedly are too high), just try Britain’s NHS, and see how you like being put on waiting lists for years while being pumped up with pain killers. And if you don’t die by the time your turn comes, you can look forward to the cheapest and most primitive medical intervention legally possible. This is one reason so many Western Europeans now prefer to fly to Eastern Europe for dental and medical procedures, although they would have to pay out of pocket.
My fellow Americans, let us not take our cue from this failed, lazy, entitled, and decrepit Western European continent that has gotten used to living off of tourism and American handouts. We can come up with better solutions on our own.
Vinny G.
Reading "Higher taxes are in our future" really ruffles my feathers. How about less public services?
Vinny, there's damn all difference in either cost or outcome between the marvellous American health system and the deplorable NHS.
Can't come up with a better reference than this at short notice.
http://www.bmj.com/cgi/content/abstract/324/7330/135
There's a lot of misunderstanding in this debate. I'll just make some points about the french system, because I know more about it than the others.
A. Wages are half those of the US and basic necessities are much more expensive.
1. The social security budget is larger than the Government Budget. But Social security includes universal health insurance, minimum retirement pension, children allowance and a few other things. Total healthcare spending is some 10% of GDP, but there's no rationing and most practionners are self employed, and health indicators are rather better than in the US.
2. Most universities are public and almost free, some are dismal but many are excellent. Besides, there's a bunch of elite Institutes where admission is based on a highly competitive exam, and several even pay a salary to the students, who in any case have almost guaranteed jobs when they get out.
3. Some public services such as urban transport are highly subsidised and very cheap for users.
4. Income tax revenue is actually fairly low, less than VAT and excise duties (But the Tax code is just as nightmarish and loopholed as the US's).
5. VAT collection is totally acomputerised and requires very little paperwork. In comparison the income tax administration is extremely costly.
6. Every taxpayer making more than median income complains about income tax but almost nobody complains against VAT (the rate on food is very low, for almost everthing else it's 20%).
7. Most households don't have huge interest payments on credit. Mortgage rates are about 4%, few people have unpaid credit card balances.
Not to say it's perfect, but you have to compare like with like.