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Monday, December 20, 2010

Tax Follies

Last week, after much posturing and empty rhetoric, the Congress managed to extend the so-called Bush Tax cuts for another two years.

The good news is that the economy avoided a threat, at a time when the risks of a tax increase, are higher than anyone should like. The result of tax increases in the USA (in 1937) and Japan (in 1997) played a major part in reducing economic growth to a crawl.

The bad news is that the Congress extended, and added to, a grotesque collection of porcine subsidies demanded by special interest groups and others who can afford to pay for the services of the K Street mafia - better known as lobbyists. The worse news is that there seems to be little willingness to address the gross distortions caused by the current tax code or the soon to be entirely unaffordable overspending that grows ever larger every year.

The latest tax follies, passed in haste, are just about bearable provided that the President is willing to follow the example of Ronald Reagan who, in 1986 with the help of two very liberal legislators - Senator Bill Bradley (D-NJ) and Rep. Dick Gephardt (D-Mo), was able to persuade the Congress to pass a really good tax bill. The Tax Reform Act of 1986 reduced tax rates in exchange for the elimination of many deductions and credits. Since then, the special interests have loaded up the tax code with so many additional deductions and credits that the benefits of the 1986 bill are long lost.

For those who even vaguely care about taxation and its effect on the economy, your correspondent recommends these thoughts:

  • High marginal tax rates act as a disincentive to hard work.
  • The hated Alternative Minimum Tax system is remarkably close to the nearly zero deductions flat tax supported by many Republicans. With some simplification, reduction of rates, and in combination with a consumption tax (VAT or Federal Sales tax), it could work well as the basis for the taxation of individual and family income
  • How, exactly, are capital gains so different from other income that a lower tax rate is justified? Consider that the tax can be deferred almost indefinitely until the gain is actually realized.
  • Subsidies should be explicit and made through the appropriations process. If my housing costs are to be subsidized, make it explicit, appropriate the funds, and send me a check. If I am a multi-millionaire with a mortgage on my vacation house, the absurdity - even immorality - of such a program becomes immediately self evident.
  • Economics 201 teaches that the result of subsidies granted to enterprises that require the purchase of a significant asset (houses, farms) merely results in the value of the subsidy being capitalized in the price of the asset. The result is that only the owner of the asset, when the subsidy is first awarded or if it is later increased, will actually benefit. Everyone else loses.
  • Farm subsidies - and the central planning that goes along with them - should be ended. It is hard to see any sense in the practice of giving large sums of taxpayer money to farmers so that they may use highly subsidized (really underpriced) water to grow cotton and alfalfa (two of the thirstiest crops known to man) in the Central Valley of California (a desert). But it happens: your tax money at work!
  • Consider the inconsistency with respect to the deductibility of State and Local taxes: property taxes, yes; state income taxes, yes; state and local sales taxes, no; gasoline, cigarette, liquor and other local excise taxes, no. What possible sense does this make other than to trick people into moving to low income tax states but all the while forgetting that the states will raise the money that they need one way or another.
  • Corporations don't pay income taxes, they collect income taxes that would otherwise be paid directly by shareholders.
  • Consumption taxes don't apply to criminal activity but the proceeds of criminal activity (fancy cars and other bling) do get taxed. That would be more than happens today.
  • Consumption taxes remove the IRS from inflicting itself on individuals because only businesses need to be audited. The efficiency of the tax collecting process is increased and the tyranny of the government is reduced.

The list above describes a tiny corner of the current waste and abuse of taxpayer resources. The real question, however, is whether there is a sufficiently large cohort of honorable, and clear thinking, citizens who are willing to trade deductions and credits that directly benefit them in exchange for lower tax rates, reduced government, and a more vibrant economy. If there are, the special interests will suffer a significant defeat. If not, the economy will suffer and our country will become ever more divided.

We should also remember the warning given by Thomas Jefferson: "a government big enough to give you everything you want, is big enough to take everything you have."

If President Obama can pull off anything like Mr. Reagan's feat, he might deserve a second term. If not, the economy, government overspending, the looming health care mess and class warfare over the renewal of the Bush tax cuts in two years, will likely send him into early retirement.

If so, he will not be missed.

1 comment:

Clark Chapin said...

I've often told people that taxes can be one of two things: Either an instrument to raise revenue for government operations or an instrument of social engineering. For example, the mortgage interest deduction is an instrument to make it attractive for people to buy individual homes. As such, it falls into the social engineering category as do deductions for charitable donations and others.