Relevant and even prescient commentary on news, politics and the economy.

How High Would a National Consumption Tax Need to Be?

Dave Neiwert interveiws Robert S. McIntyre, an economist at Citizens for Tax Justice. Neiwert, quoting McIntyre:

“It becomes pretty hard to run when you get up to a rate big enough to replace the income tax, because you’re going to have to have a 40 or 50 percent rate. That’s what scared Bill Archer [the chairman of the House Ways and Means Committee, a fierce advocate of a consumption-tax approach] from ever putting a bill in. He was for it, but he didn’t want anybody to know how high the rate would be. He asked his staff to analyze it, and they came back and they said, ‘Well, if you taxed everything, you could do it at 42 percent.’ He says, ’42? Come on, I was hoping for 10.’ And they said, ‘Well, you’ve gotta tax everything, you understand.’ And he said, ‘Like what?’ And they started going through this, you know, rents and everything. ‘Oh shit!’.”

Is 40%-50% really what you would need? I’ll admit that at first glance it seems implausibly high, but that doesn’t mean it’s wrong. So I went to the Bureau of Economic Analysis web page for some numbers and it turns out that if the goal is to finance the entire federal budget using only consumption taxes, then yes, 40% is reasonable and 50% is not out of the question. Click to see a table with annual GDP, Federal Revenue, and implied Consumption Tax Rates (sorry, my html skills are not yet up to inserting an inline table–it keeps messing up all the formatting in the rest of the blog.

The table shows that to finance the current level of government spending with only consumption tax revenue would require a national sales tax of 30%, assuming (incorrectly) that levying this tax on consumption does not reduce consumption.

Remember, adding a 30% sales tax to a $100 DVD player makes the price to the consumer equal $130, resulting in less DVD players being sold, reducing consumption tax revenue. The estimates in the table are “naive” because they do not factor in this effect. (Conservatives may reply, with some truth, that this also does not factor in the fact that eliminating income taxes increases disposable income, increasing consumption). With apologies to Vermont, add in state and local taxes and it’s really easy to get a total sales tax over 50%.

One more thought: with sales tax rates like these (heck–suppose I’m wrong and a 25% federal tax would do the trick), imagine the size of the black market in consumer goods likely to emerge. Think the IRS is full of jack-booted thugs now? Enforcing a consumption tax won’t probably won’t make the IRS any friendlier. Honest estimates of the requisite size of a conusmption tax must include projections of the size of the black market.


Still to come: why this may be much ado about nothing (hint: Untaxed Social Security Benefits).

P.S. I’m working on eliminating the apparently random font changes.

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This is worth skimming (I saw it on Atrios): Columbia Tape Shows Network Competition.

Here’s the fun part

NEW YORK – During coverage of the space shuttle Columbia’s disintegration, the folks in CNN’s control room thought the picture they saw on rival Fox News Channel looked familiar.

So they tried a little experiment.

The producers superimposed a tiny “CNN” logo on the upper left corner of the network’s screen as it showed the shuttle breaking into pieces. Blip! The same logo appeared on Fox News Channel.

Then they decided to abruptly switch cameras so a picture of correspondent Miles O’Brien appeared. For two seconds — until it was hurriedly replaced with a view of NASA (news – web sites)’s mission control — it looked like O’Brien was working for Fox, too.

I suppose it’s only fair, CNN cribbed Fox’s call of the winner in Florida and thus the nation in November 2000 (around 3:30 a.m. as I recall).


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Stuart Buck cites a editorial by Bruce Bartlett arguing that consumption taxes are not regressive. Bartlett essentially parrots the logic of chapter 5 of the Economic Report of the President:

Liberals also make the mistake of assuming that a consumption-based tax system is regressive — taking more out of the pockets of the poor than the rich. In fact, over one’s lifetime, consumption is roughly proportional to income, because over a lifetime we eventually consume all our income [emphasis mine]. Thus, a tax on consumption will also be roughly proportional — taking the same percentage from all taxpayers.

Of course it’s not true that all income is consumed over a lifetime. Those with estates to pass on when they die don’t consume all of their income. Not surprisingly, the advocates of the consumption tax are the same people who argue against estate taxes.


P.S. Stuart Buck also asks why we can’t create progressivity by making the sales tax an increasing function of the sales price. This is the logic of luxury taxes. But setting the tax rate as an increasing function of the sales price is a recipe for substantial economic distortions. For example, firms would simply unbundle sales to qualify for lower rates (but since firms currently do bundle sales–e.g., tires come with the car–we can infer that bundling is valued by consumers). More generally, this penalizes things in the economy that are intrinsically expensive, like housing, in favor of things that are intrinsically inexpensive, another distortion. Maybe we could make a different increasing tax rate for every good so that a Mercedes is taxed at 30% and a Ford at 18%, but housing is only taxed at 14% for the first $1000, but at 25% after $1000, except that has to be adjusted for regional differences (see State and County Consumption Tax Adjustment Factors in Appendix K-7). It gets complicated quickly, and simplicity is a major part of the case for the consumption tax.

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Press Release: Angry Bear Views Growing Exponentially

Cumulative views of 7 (Friday), 23 (Sat.), 76(Sun.), 128 (monday, and today is only half-way over). This is growth, 1990s Enron-Style! So far, the cumulative number of views roughly equals 7 * 2^x, where x is the number of days, inclusive, since 2/14/03. At the current rate of growth, the entire population of the planet will view this site before 3/14/2003!

Note: this is why, when reading statistics–in company financial reports or news articles about the alarming outbreak of malaria in suburban children, you should be skeptical of phrases citing growth rates. Very high growth rates are easy to sustain when the actual magnitudes are small. In the malaria example, if the number of cases of malaria (or other possibly exciting news lead in) increases from one to two, that’s 100% growth!

In any event, I doubt the entire population of the planet will view the site until at least the end of the year.


[Ed. note: this press release was corrected, replacing “number of views per day”, which was incorrect, with “cumulative number of views”]

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Thinking about the idea of a consumption tax, I can’t help tying this into the somewhat infamous “Lucky Duckies” editorial in the WSJ (“The Non-Taxpaying Class. Those lucky duckies!“). Who are lucky duckies? The working poor who do not have to pay income taxes (though they do of course pay payroll taxes). See also the WSJ follow up editorial, “Lucky Duckies Again“. Slate’s Tim Noah is on top of this and the “tax the poor” implications of various other proposed tax changes. See “Meme Watch: Return of the Lucky Duckies” and the links therein.


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Static and Dynamic Analysis of Consumption Taxes

This and one more post on Chapter 5 of the Economic Report of the president. The author(s) of this chapter clearly anticipated a “consumption taxes are regressive” line of attack and attempt to construct a defense, coming up short in my opinion. Here are two phrasings of their defense:

Conventional distributional analysis typically considers a snapshot of a taxpayers’ economic well-being at a particular point in time. Research has shown that [What research? How? Who?] when a longer view is taken, differences in well-being, whether measured by income or by consumption, tend to be not as great, because of the fluidity of household incomes over time.” [ERP, p. 177]


The substantial movement of taxpayers across rate brackets suggests that the tax burdens in a given year may tell a very different story of the distribution of the tax burden than do measures of tax burdens over longer horizons…Analyses that rely on annual snapshots of taxpayer incomes are likely to suggest that a small fraction of taxpayers benefit from rate cuts, when in fact a larger fraction of taxpayers are likely to benefit because of the substantial movement of taxpayers up and down the tax rate schedule over time.”[Box 5.4, p. 201]

Get it? It’s ok if the proposed consumption tax is regressive because later on you might make more money and be on the side of the income distribution that benefits from regressivity! Let’s just say it: relying on this argument is a tacit but telling stipulation that in a static sense (i.e., looking only at one year), consumption taxes are regressive. But is the argument right, even so? There are a number of things wrong with the line of reasoning in this chapter:

  1. Their own stats (see Box 5.4) indicate that a large part of the population will continue to be subject to the regressive tax. They take families in 1987 and examine what tax brackets those same families are in circa 1996, finding “about 53 percent of taxpayers were in a different [not necessarily higher] tax bracket at the end of the period [1996] than at the beginning.” Of course 47% are still in the same bracket–regressively taxed in both 1987 and 1996 and presumably the intervining years as well. So it’s not at all clear clear that the mobility factor averages out in a way that makes lifetime taxes non-regressive, much less progressive.
  2. Also comparing 87 to 96, they find that “about 28% of taxpayers had moved to a higher tax bracket at the end of the 10 years. About 66% of the taxpayers in the bottom (zero tax rate) bracket in year 1 had moved to a higher bracket after 10 years, the vast majority moving to either the 10 percent or the 15 percent bracket.” Fine. But being in the 10% or 15 % bracket does not make a family wealthy. In 2002, the 15% bracket topped out at $27,950 for single filers and $46,700 for joint filers. Remember, a consumption tax is less of a burden as less of your income is devoted to consumption. A married couple with children making a combined $46,700 is still going to spend nearly early all of their income on consumption. Sure, at that level, they likely do save via a 401(k) or similar vehicle, but the remainder after that is spent on consumption, not savings. So these families may move up from the “extremely regressive” bracket to the “somewhat regressive” bracket, but would still pay more of their income in taxes than would wealthier familes!
  3. Nowhere do the authors deny that in a static snapshot, the consumption tax is in fact regressive. Instead they rely on the Panglossian notion that it’s fine because you’ll move up, devote a smaller portion of your income to consumption, and then benefit by paying less in taxes. Whether the movements in brackets are truly “substantial” is subjective, but let’s assume it is. The authors fail to note that implementing a regressive tax will reduce the very mobility they use to defend the proposed consumption tax. An old truism is that it takes money to make money. If we take more money from poor people now (via consumption taxes), it will be more difficult for them to become not poor later.
  4. The economy goes up and down; it’s a fact of economic life. But the size of the swings in the post-war era pale in comparison to those of the late nineteenth and early twentieth centuries. Why have the swings become smaller? A variety of counter-cyclical mechanisms implemented since World War II, such as unemployment insurance. And the progressive income tax is innately counter-cyclical: when a recession moves families into a lower tax bracket, their after-tax income falls by less than does their pre-tax income (because they move into a lower bracket). Consumption taxes are intrinsically less counter-cyclical. A family’s spending can be divided into subsistence (food, clothing, shelter) and discretionary (new car instead of used, vacations, …). By definition, subsistence spending can’t be varied in concert with the business cycle, though discretionary can. The point: families whose income is devoted mostly to subsistence will not have an off-setting tax benefit in recessions. Here’s the shocker: which families devote the most to subsistence and the least to discretionary spending? Poor families.


Next up: Social Security and why this may all be much ado about nothing.

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The Economic Report of the President is authored by the Council of Economic Advisors (CEA), currently chaired by noted economist Glenn Hubbard. Noam Scheiber gives essential background analysis of both the politicization of the CEA, and Hubbard drifting from analyst to advocate. See Bush’s war on honest economics. Scheiber may slightly overstate the historical lack of bias on behalf of the CEA economists, but he makes a strong case that the level of bias (whether it previously was zero or small and positive) is now at an all time high.

“Hubbard seems to have responded to [assistant to the president for economic policy Lawrence] Lindsey’s influence not by digging in his heels, like many of his predecessors, but by making CEA more political itself.”

More generally, as I read chapter 5, I’m struck by the number of passive phrasings such as “it has been estimated…”, “research has shown that…”, “some have argued…”. This is generally considered (sic) to be a weak way of couching an argument. Scratch that. This is a weak way to couch an argument. What research? Who has argued? Who estimated and how? Without active statements of the theory in question and how it was tested, these statements are not falsifiable, nor can they be replicated by other researchers, and thus are barely more than opinions and speculation.

Here’s a nice excerpt from a randomly googled site on usage of the passive voice:

The agent (the original subject) is often left out of a passive verb phrase. Do not use passives just to hide the fact that you do not know the source of something. Sentences which begin like these should be avoided:

It is widely known that …

It has been claimed that ..

It is universally acknowledged that …

It cannot be denied that …

A critical reader will immediately want to know “who knows?”, “who has claimed?”, “who acknowledges?”, or will say “Oh yes, I can deny it ..”

But what about the substance of the chapter?

Stay tuned.


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So this is a bit off topic, but last night I saw an infomercial on the benefits of “Coral Calcium”. While generally not much better or worse than the average infomercial, I feel compelled to share this phrase from the informecial:

“DNA can’t work unless it’s smothered in calcium”.

I’m now anxiously awaiting my shipment, the old DNA has been feeling a bit lethargic of late.


P.S. Next up: more on Chapter 5 of the Economic Report of the President, “Tax Policy for a Growing Economy”.

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Corner Solutions and Backwards-Bending Labor Supply Curves

If taxing an activity makes people do less of something, why might replacing the income tax with a consumption tax not lead to a large increase in industriousness? The first two factors, related to corner solutions, will mostly apply to wage workers. The third applies to upper income workers.

Reason 1: Corner Solutions: For firms that pay on an hourly basis, there is a natural tendency not to exceed 40 hours. Each week, many employees ask to work overtime and are denied. Certainly, if their take home pay were to increase as a result of an income tax cut, they might ask more often, or more workers might ask for overtime, but that does not mean that employers would grant that overtime. It’s cheaper for firms to use more workers at the base wage than it is to use fewer workers and pay time and a half. (Now, if we could combine an extension in the base work week with a shift to consumption taxes, then we might be on to something! Ari? Karl?).

Another Corner Solution: Many workers pay no income taxes (though they do pay payroll taxes). Reducing the income tax will not affect these employees’ incentives to work.

One caveat to both of these is that, because employers also pay taxes on the labor that they hire, reducing those taxes would in fact increase the incentive to hire more workers (whether this would be sufficient to offset the employment-depressing effects of the distortions described in the previous post is unclear).

Reason 2: The Backward-Bending Labor Supply Curve. Suppose you are currently making an after-tax wage of $60.00 an hour, netting roughly $125,000 per year based on a 40 hour work week. What would you do if you were to get a raise to $80.00 an hour (or elimination of the tax cut raised your take-home wage to $80/hour)? As it turns out, if you study workers’ behavior, different people do different things. For some, they will work harder (think of an hour off work as now costing $80.00 instead of $60.00—people generally do less of something, in this case leisure, when its price increases). But for many, they will actually work less. What explains this contradiction? When people make more money, they consume more of almost everything. “Almost everything” in this case includes leisure. So, paradoxically, the incentive to work can actually fall as the returns to work increase! Another way to think of this is to imagine the increase in your effective wage from $60 to $80 (due, say to eliminating the income tax). At $80 per hour, you could work only 35 hours a week and make $145,000 per year–$20,000 more to buy stuff with and 5 more hours of leisure and family time per week. The punchline of the story is that cutting the income taxes of those who make a lot of money will not necessarily induce those people to work more.

Ignoring this effect when setting the consumption tax rate could also lead to a shortfall in revenue. If revenue targets are premised upon people working the same or more hours and then spending the additional income on consumption (which will then be taxed), then there will be shortfalls due to people spending the additional income on leisure (that is, not working). (Now if we could combine eliminating the income tax with a tax on leisure, this might not be a problem—Ari? Karl?).


P.S. I don’t anticipate every post being as wonky as this one and the previous one.

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